how does a devalued currency lead to hyperinflation?
In: 2
Inflation itself is the rise in prices relative to the value of money, so a drop in currency value is the same thing as a rise in prices as far as inflation is concerned. Now, hyperinflation is when you have inflation that runs away and snowballs into an evergrowing problem. A devalued currency wouldn’t cause that, unless the devaluation just keeps getting worse, and that worsening is accelerating.
So imagine a currency loses value, so people stop using it and use something else instead. That unused currency could see hyperinflation, since it gets less and less valuable as less and less people use it. There’s one way you could have hyperinflation happen just from currency devaluation.
If one loaf of bread costs one dollar, things are fine. If that dollar decreases in value to the point that it’s worth 1/100th of what it was, but that bread is still worth what it was, the loaf of bread now costs $100.
If before you were making $10/day you could afford 10 loaves of bread a day. But now, that $10/day can’t buy shit.
Keep in mind that devaluing a currency only makes sense in the context of foreign trade. Which means that a devaluing currency is either good or bad for you depending on what you are importing and exporting. When we say devalue, it means devaluing in relation to other currencies (usually reserve currencies such as the Euro and USD).
Devaluing your currency will mean that it makes goods and services that you export more valuable overseas. At the same time it makes it more expensive for you to import goods from overseas. Increasing the value of your currency does the exact opposite. Your exports are less attractive (possibly hurting your domestic industry) while imports are cheaper for you.
So how does devaluing currency lead to hyperinflation? Keep in mind the relationship with devaluing currency and cost of imports. If you have no domestic oil or food production and have to import all of it from overseas, what happens if you devalue your currency? Suddenly that imported food and oil skyrockets in price in your local currency. And it keeps going up while you continue to devalue your currency. This in turn makes everything in your country increase in price as they all need oil to get to where they need to go and everyone needs to eat. In other words, inflation.
This is what happened to Venezuela. It’s a petro state that pretty much only produced oil. They have to import all of their consumer goods (Food, tools, toiletry, etc) as they had next to no domestic production. When the market for their oil collapsed (They had low quality sour crude), suddenly they could not export anything. Their currency crashed in value relative to other currencies as a result. Which in turn meant that importing goods became expensive as hell which led to hyperinflation. Even worse is that they had no domestic refining capabilities for the crude oil they produced (They relied on refineries in Texas), so they were producing oil that was useless for them.
Latest Answers