According to topbbacolleges, a build-up of inflation is characterized by the fact that it cannot be recognized as such by every market participant. The demand is greater than the supply and there is consequently an excess demand. With this type of inflation, the state intervenes to regulate events in order to ensure a stable price level.
Overview of types of inflation
In this lesson, we’ll explain the typical characteristics of backed-up inflation and how it can happen. We go into the role of the state and explain the measures it uses to reduce inflation. Finally, you can test your knowledge with the help of a few practice questions.
Synonyms: Hidden inflation | Cash holdings inflation
Why should you know about dammed inflation?
Since the accumulated inflation is usually not recognizable as such, or not at first glance, it is all the more important to know its typical characteristics. This can help to better assess the actual situation of an economy and thus to obtain information relevant to decision-making.
Features of dammed inflation
An essential characteristic of a dammed-up inflation is that it is not perceived as inflation by the majority of the population. The excess demand does not come to the fore in the form of a rising price level, but rather manifests itself in other indicators that illustrate a shortage. These include, for example, long queues and the formation of black markets.
The state tries to keep the price level as stable as possible. In order to achieve this goal, he intervenes in the market in a regulatory manner. For example, it determines upper price limits for certain, particularly scarce products or enacts rationalization measures.
This inevitably means that the price can no longer develop freely on the basis of supply and demand. On the one hand, the price level does not rise noticeably, but the scarcity of certain goods remains. Correspondingly high prices are then achieved for these on the black markets that are forming.
Differentiation from open inflation
The dammed-up inflation is not clearly evident as such in comparison with open inflation. Inflation usually arises from an excessive amount of money or an inflation that is accompanied by an increase in the price of products. The amount of money available is growing faster than the supply it is facing, which leads to this rise in prices.
In the context of backed-up inflation, the state tries to avoid this for certain goods by artificially keeping the price, which should actually rise according to supply and demand, at a lower level. In the context of such measures, it can happen that vouchers are issued, with the help of which each citizen is allocated a certain amount of a requested good.
Example of pent-up inflation and black markets
Hidden inflation is particularly common in central or planned economies. Here the prices are always fixed by the state and there is no functioning market mechanism.
This could often be observed in the GDR, for example. Black markets formed for many products that were not available in the GDR or were only available in insufficient quantities. So-called western products were often offered for sale here.
Creeping inflation is the most common type of inflation and is characterized by low inflation rates of up to 5%. Since it can be wanted by the central banks, it is not necessarily to be regarded as a symptom of an economic crisis.
In this lesson we explain the main characteristics of creeping inflation and use the example of the situation in Germany to discuss them. Finally, you can put your newly acquired knowledge to the test with a few practice questions.
Why should you know about creeping inflation?
You should be familiar with creeping inflation, as it is the most common type of inflation that also occurs in Germany. It should not necessarily be viewed as something negative or even as a manifestation of an economic crisis, as it can certainly bring benefits.
Features and dangers of creeping inflation
The essential and at the same time characteristic of creeping inflation is the low inflation rate. One speaks of creeping inflation whenever this rate is less than or equal to 5%. As a result, the currency as such is not endangered and the confidence on the part of the population is not waning or is only waning to a very small extent. The majority of the population does not even perceive creeping inflation as such.
Creeping inflation compared to galloping and trotting inflation
However, this does not mean that creeping inflation cannot lead to high losses in value, precisely because it is not perceived as inflation. This is especially true if creeping inflation continues for several years or even decades. Savers who just hoard their money and do not invest or invest at an interest rate that at least compensates for the inflation rate can suffer losses of up to 50% over a period of 10 years.
Effect of creeping inflation
In order to illustrate the dangers of creeping inflation, this example is based on a private individual who has saved € 5,000. Instead of investing this amount, she keeps it in the safe at home for a period of 3 years.
The following losses in value result from different inflation rates:
- With inflation creeping up at 1.1%, purchasing power remains at € 4,838.56
- With 2.0% creeping inflation, purchasing power remains at € 4,711.61
- With 5.0% creeping inflation, purchasing power remains at € 4,319.19
Benefits of creeping inflation
As indicated above, creeping inflation can also bring benefits. Since the creeping inflation is not perceived as inflation, the population is from a stable price level and in the long run increases the confidence in their own currency. This helps ensure that the currency remains functional.
In addition, debts decrease as inflation progresses, which means that this type of debt reduces debt without having to accept an economically unstable situation, as would be the case with galloping inflation. For this reason, many countries even intend to maintain a low level of inflation over the long term.
An overview of the advantages and disadvantages of creeping inflation
- Stable price level
- The public perceives the economic situation as stable
- Creeping inflation promotes debt reduction in the long term
- Long-term high losses in value possible
- Minimal increase in the price level
Creeping inflation in Germany
In Germany, creeping inflation has been the norm for decades. Between December 2018 and December 2019, the inflation rate was a maximum of 2% (April 2018) and a minimum of 1.1% (October and November 2019).
In Germany, the price level is measured by a basket of goods defined by the Federal Statistical Office. This shopping basket consists of products and services, the composition of which is representative and reflects the needs of an average end consumer. It includes, for example, expenses for rent, electricity, food, telecommunications clothing, leisure expenses, and government fees and taxes.