Consequences of inflation

• What is a primary consequence of inflation on prices?

  Prices of most goods and services increase
• How does inflation affect the nominal wage of most workers?

  The nominal wage of most workers will remain constant over the course of the year
• What effect does inflation have on the value of wages?

  Inflation erodes the value of their wage
• What happens to purchasing power as inflation rises?

  Purchasing power decreases, making most workers worse off
• What is the Wages/Prices Spiral?

  If inflation continues to rise, workers will demand higher wages
• What is the relationship between higher wages and production costs for firms?

  Higher wages lead to a decrease in production costs for firms
• What happens to exports when inflation rises?

  Exports fall as foreigners demand less goods and services due to high prices
• How does inflation affect employment levels?

  Employment decreases and unemployment increases due to falling exports
• What is the impact of uncertainty caused by inflation on firms?

  Firms face increased uncertainty, leading to more difficult decisions
• How does inflation relate to consumer confidence?

  Inflation leads to reduced consumer confidence
• What behavior do consumers exhibit when consumer confidence falls?

  Consumers postpone spending and save more
• How do higher interest rates affect consumer spending?

  Higher interest rates likely reduce consumption spending
• What is the effect of reduced business consumer confidence on unemployment?

  Unemployment is likely to increase
• What are menu costs in the context of inflation?

  Menu costs are costs firms incur when changing prices due to inflation
• What are shoe leather costs?

  Shoe leather costs are the costs consumers incur by shopping around for the best deal
• What are the main consequences of inflation on the economy?


  • Prices of goods and services increase
  • Nominal wages remain constant, eroding purchasing power
  • Wages/Prices Spiral leads to higher wage demands
  • Exports fall due to high prices
  • Employment decreases as unemployment rises
  • Increased uncertainty affects business decisions
  • Consumer confidence falls, leading to reduced spending
  • Menu costs and shoe leather costs arise
• What are the types of costs associated with inflation?

  • Menu Costs: Costs incurred by firms to change prices
  • Shoe Leather Costs: Costs incurred by consumers shopping for better deals