Zimbabwe for hyperventilators 101
Know your hyperinflation. Must read by Bill Mitchell.
Zimbabwe is the new Weimar Republic. Not! Zimbabwe is the front-line evidence that shows that government deficits will generate hyper-inflation. Not! Zimbabwe is the demonstration of the folly of a fiat monetary system. Not! Zimbabwe is an African country with a dysfunctional government. Yes!
First we should make sure what we are talking about. The right think that when the workers get a pay rise it is inflation. It is not. The left think that when the corporate sector increase the price of a good or service it is inflation. It is not. It is also not inflation when the exchange rate falls pushing the price of imports up a step. It is also not inflation when the government increases a particular tax (say the GST) by x per cent to some new level.
So while a price rise is an essential pre-condition – a necessary condition – for what we call inflation it is not a sufficient condition. That is, the observation of a price rise will be required to define an episode as being inflationary (at some point) but observing a price rise alone will not be sufficient to categorise the phenomena that you are observing as being an inflationary episode.
Inflation is the continous rise in the price level. That is, the price level has to be rising each period that you observe it. So if the price level or a wage level rises by 10 per cent every month, then you have an inflationary episode. In this case, the inflation rate would be considered stable – a constant rise per period. If the price level was rising by 10 per cent in month one, then 11 per cent in month two, then 12 per cent in month three and so on, then you have accelerating inflation. Alternatively, if the price level was rising by 10 per cent in month one, 9 per cent in month two etc then you have falling or decelerating inflation.
If the price level starts to continuously fall then we call that a deflationary episode.
Hyper-inflation is just inflation big-time!
So a price rise can become inflation but is not necessarily inflation. Many commentators and economists get this basic understanding wrong – often and continually.
Second, it also follows that cyclical adjustments in price levels by firms from what they are currently offering at depressed levels of activity to what the price levels that are defined at their normal operating capacity levels are also not sensible to consider as inflation. When the economy is in poor shape, firms cut prices in an attempt to increase capacity utilisation by temporarily suppressing their profit margins and hence maintain market share. As demand conditions become more favourable the firms start increasing the prices they offer until they get back to those levels that offer them the desired rate of return at normal capacity utilisation. Have you tried hiring hotel accommodation recently in the tourist areas? Big discounts are on offer but they will disappear once the economy improves. It is not helpful to call that inflation.
Full article here.