The Consequences of Inflation

The Consequences of Inflation

Fall in the Value of Money

  • Whether a household’s purchasing power actually decreases, however, depends on whether their income rises above the rate of inflation

Menu Costs

  • These are the costs of changing prices due to inflation

Shoeleather Costs

  • During times of high inflation, if money’s lying around, it’s losing value
  • Time and effort therefore has to be taken in finding out where the money can gain the most interest in terms of which financial institutions/banks to put it in
    • This time and effort is seen as a ‘cost’

Administrative Costs

  • Things like negotiating new wage rates of adjusting accounts take time and effort

Inflationary Noise

  • This is the distortion of price signals by inflation
    • g. if the price of a TV rises, it would be hard to tell if it’s a relative price rise or it’s just a price rise that’s in line with inflation

Fiscal Drag

  • This would occur when people’s income is dragged into higher tax bands due to tax brackets not changing in line with inflation


  • If firms are uncertain about what costs will be and what revenue they can take, they may be reluctant to invest
  • Likewise, uncertainty also means that households will find it difficult to decide how much and when to save.

Inflation Causing Inflation

  • If consumers think that prices are going to rise in the future, then they’ll spend more in the present, which will then increase AD

Loss of International Competitiveness

  • If the rate of inflation in a country is higher than its competitors, its goods and services will be less price competitive
  • This is likely to result in fewer exports sold and more imports being purchased.