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Inflation is caused by the gradual increase in the prices of goods and services throughout the economy. Low inflation is necessary for the economy, but too much inflation causes serious problems.
Inflation has spun out of control lately. According to the Bureau of Labor Statistics (BLS), in June 2022 inflation measured by the consumer price index (CPI) increased 9.1% over the prior 12 months. Despite the best efforts of the Federal Reserve to tamp down inflation, prices keep climbing.
Rising inflation rates mean everything from groceries to cars become more expensive, and it may be harder to afford everyday essentials. You can better protect your finances by understanding how inflation works and what causes it.
What Is Inflation?
If you’ve walked through a grocery store or the shopping mall lately, chances are you’ve been shocked to see how much prices have increased on all sorts of things. The cost of everything from clothes to cereal has risen sharply—all due to inflation.
Inflation is nothing more than broad-based price increases throughout the economy. To measure inflation, statistical agencies collect data on current prices for different goods and services and compare them to prices for the same things in the past.
For example, the CPI measures the changes in prices paid by U.S. consumers for food, fuel, housing, transportation, apparel, medical care and other expenses. The personal consumption expenditures price index (PCE) takes a similar approach.
These price indexes serve as representative samples that allow economists, investors and regular people to understand how prices change over time. When analysts talk about inflation, they’re referring to the percentage change of the index, which reflects the change in purchasing power of your money.
Impact of Inflation
Over time, inflation can cause a dollar to be worth less than it used to be, lowering all consumers’ purchasing power. As a result, they need to earn more money to maintain the same standard of living.
For example, let’s say you earned $3,000 monthly in July 2012. To maintain that same level of buying power and compensate for inflation, you’d need to make $3,800 today.
You can use the BLS’s online inflation calculator to see how the value of the dollar has changed over time.
What Causes Inflation?
Inflation significantly impacts people’s daily lives, but what causes inflation? There are a few contributing factors:
One factor is demand-pull inflation. That’s when there is an increase in demand for goods and services but not enough …….