In economic terms, inflation is the rate at which the general prices for goods and services rise in a given country. A volatile metric, inflation that can rise and fall rapidly depending upon economic conditions and the measures a government chooses to control or counteract them. Inflation is connected to the economic principles of supply and demand and can be viewed positively or negatively depending on the specific situation and the rate of change.
For example, a small amount of inflation is usually viewed as a signal that a country's economy is growing and its residents have adequate income, both good things. However, excess inflation happens when prices too rise faster than wages, causing currency to lose value. The worth of a single unit of currency (a dollar, a euro, etc.) becomes less than it was previously and the purchasing power of the country's currency is decreased. Conversely, too little inflation can also be a troubling indication that a country's economy is stagnant and not enough people have enough work.
The Three Types of Inflation Indexes
There are three inflation indexes: the consumer price index (CPI), the wholesale price index (WPI), and the Producer Price Index (PPI). The CPI is a measure that examines the weighted average prices of primary needs—such as transportation, food, and medical care—at the consumer/retail level. The WPI measures and tracks price changes at the producer or wholesale level before the goods reach the consumer. The PPI is a family of metrics that measure price changes from the perspectives of the seller/producer rather than the buyer/consumer.
Causes of Inflation
Inflation is classified into three types: demand-pull inflation, cost-push inflation, and built-in inflation. All three of these are related to the equilibrium between the supply of money and the supply of goods in a country's economy.
Demand-pull inflation — Occurs when the demand for goods and services—in other words, the overall amount of money and/or credit people have to spend—increases quicker than the economy’s production capacity. Demand is high but supply can't keep up, so prices rise. The rising prices cause some buyers to drop out of the market, which decreases demand and reestablishes the balance between demand and supply.
Cost-push inflation — Occurs as a result of the increase in the cost of production. For example, if the raw materials used to create a product increase in price, the price for the final good rises as producers pass their costs on to the consumer.
Built-in inflation — Occurs due to expectations that inflation will continue, so wages must rise in order to maintain the status quo. As the prices of goods and services increase, labor expects to be paid more to maintain their standard of living (this is what is commonly known as a "cost of living" raise in the United States). As a result of the rise in labor costs, the consumer prices for the goods or services that labor produces or provides also increase.
Top 10 Countries with the Highest Inflation Rates (Trading Economics Jan 2022)
- Venezuela — 1198.0%
- Sudan — 340.0%
- Lebanon — 201.0%
- Syria — 139.0%
- Suriname — 63.3%
- Zimbabwe — 60.7%
- Argentina — 51.2%
- Turkey — 36.1%
- Iran — 35.2%
- Ethiopia — 33.0%
With an inflation rate that has soared above one million percent in recent years, Venezuela has the highest inflation rate in the world. At times, prices in Venezuela have changed so rapidly that stores stopped putting price tags on merchandise and instructed customers to simply ask employees what each item cost that day. This level of runaway inflation is known as hyperinflation, an economic crisis that is usually caused by a government overspending (often as a result of war, a regime change, or socioeconomic circumstances that decrease funding from tax revenue) and printing large amounts of additional money to cover its expenditures.
Venezuela’s economy was once the envy of South America, blessed with large per-capita wealth due to having the largest oil reserves in the world. However, such heavy reliance upon petroleum incomes left the country particularly vulnerable to fluctuations in oil prices during the 1980s and 1990s. When oil prices plunged from US$100 per barrel in 2014 to less than US$30 by early 2016, the country's economy spiraled and has yet to fully recover.
Sudan had an inflation rate of 340.0% at the start of 2022, ranking as the second-highest in the world. Inflation in Sudan has increased drastically in recent years, driven by food, beverages, and a black market for U.S. dollars. The rising inflation became so bad that it sparked protests and ultimately the ousting of President Omar al-Bashir in April 2019. Sudan’s transitional authorities are now tasked with turning around an economy plagued by years of mismanagement.
Countries with the Lowest Inflation Rates
The countries with the lowest inflation rates in the world often have negative inflation rates, which is called deflation. Sudden deflation increases the value of a country's money, enabling more goods and services to be purchased with the same amount of currency. Deflation generally arises from the opposite scenario as inflation—in other words, when the supply of goods and services outpaces the supply of available money in the economy, causing prices to decrease as a result. Deflation can also occur when buying power grows due to a reduction in the money supply and/or a decrease in the supply of credit (both of which enhance the value of existing currency).
Top 10 Countries with the Lowest Inflation Rates (Trading Economics Jan 2022)
- Rwanda — -2.0%
- Chad — -0.5%
- Maldives — -0.2%
- Gabon — 0.6% (tie)
- Japan — 0.6% (tie)
- Bahrain — 0.7%
- Fiji — 0.8%
- Vanuatu — 0.9% (tie)
- Bolivia — 0.9% (tie)
- Saudi Arabia — 1.1%
What is the ideal rate of inflation?
If both too much and too little inflation can both lead to negative conditions, what is the ideal level of inflation? It depends. Individual countries will each have their own unique targets based upon their specific economic circumstances. That said, the United States Federal Reserve has a long-standing target of two percent (2%) inflation per year, which it has determined is the rate that best attains the policy's main goals of maintaining consumer price stability and maximizing employment.