Why if I have $100 right now, 10 years later that same $100 will have less purchasing power? Why can’t our money retain its value over time, I’ve earned it but why does the value of my time and effort go down over time?
In: 5591
ELI5:
There is all the money in the world
There is all the value in the world
The only way to have zero inflation or deflation would be to have those amounts always be equal
There are always more people and those people are always finding better ways to produce value, so we print more money to try to keep them equal
We can’t do better than estimate the increase in value, so we have to guess
We always guess high, because if there’s not enough money, it gets more valuable, not less. That’s called deflation.
Deflation makes people stop spending and save their money so much that the system stops working. Why spend when your money will be worth more next week? Why put it in a bank to save it, when it’s increasing in value right at home in the drawer?
Modern central banks deliberately aim to maintain some inflation in their monetary policy.
(Moderate) inflation is generally thought to be a net positive because it discourages hoarding money and encourages investment and consumption, which is usually good for economic growth.
Also, even modest levels of deflation can turn into a vicious cycle, so if you don’t want to risk falling into a deflationary spiral, you need to maintain some inflation, because perfect price stability simply isn’t possible.
Inflation is the increase of the money supply not necessarily the increase of consumer goods. So if you keep printing money then you diluted the purchasing power.
The short answer is that the purpose of money, or cash specifically, is to function as a means of exchange rather than a store of value.
Inflation encourages this construct, by incenting people to spend cash or convert it into other assets, such as stocks, bonds, real estate, gold, beanie babies, etc if the goal is to store value.
If money retained the same value over time, or even worse from an economist’s perspective increased in value, then people would be incented to not spend money which would reduce spending as a whole and reduce incomes across the entire economy.
This is why most central banks target a 2% inflation rate, and why currency is not pegged to a specific value such as an amount of gold. Pegging currency to a specific, uncontrollable asset can lead to wild swings in that currency’s value which can have severe, negative impacts on the entire economy.
I would rather have a dollar now than I would have a dollar 10 years from now even if it bought me the exact same product. The human condition puts more utility value in immediate satisfaction than it does a rationally equal satisfaction in the future. This human irrationality, despite having a biological purpose, leads to a concept of “time value of money.” Inflation is the logical next step if we accept the time value of money theory.
Suppose every worker and employer were kind hearted and generous. Workers wanted to be paid what their work was worth, and employees wanted to be paid fairly, and nobody cared about profit.
Now, there’s a mine that produces widgets and widgets are really important. There is an unlimited supply of widgets, but the more you mine, the deeper the miners must go to get them.
When the mine’s widgets were really close to the entrance, a miner could mine 1 widget every hour. But as the mine gets deeper, the miner has to walk further and further. Eventually it becomes a 30 minute walk each way, and he can only mine 1 widget every 2 hours.
To make up for this, the employer has to hire twice as many people. His cost just doubled. Now he has to pass that onto the consumer.
That consumer can now only get half as many widgets. But they need the same amount, so now they need their salary to go up. So they go to their employer. They agree to the raise, but now they pass that cost on to their customers, and it keeps going.
The cost of making things can change over time. Sometimes we get better at making them, and they get cheaper. Sometimes the materials become more expensive and the product does too.
And this example is for a perfect world! Just imagine how much worse this becomes when people get greedy and when something is in limited supply. They charge a lot for rent, or buy Taylor Swift tickets and sell them for twice as much.
Supply, demand, productivity.
Say you have 200K to buy a house but decide against it and someone else does. You put it in the bank. Years later it’s back up for sale but there’s less houses for sale and more people trying to buy them and it sells for 250K. So now you can’t buy it because you still only have 200K.
Same money. Same house. Different price and purchasing power. Ergo inflation.
We also want some inflation to keep up with other growth or things would get screwy as better described elsewhere.
This is why rich people own assets not money.
Of course inflation should also mean your employers have more cashflow and so inflation should also affect your wages and increase them.. lol.
You have it right, money is more valuable now than later.
It is designed that way because it is designed to be spent. The purpose of money is for it to be spent, and to facilitate transactions. If you holding onto it and not spending it, its not doing its job. Therefore money and currencies are designed to have inflation so that it gets spent as soon as possible.
If you don’t want to spend your money and want to save it for later, this is very bad for the makers of a currency. What they would rather have you do is give the money back, and they will use it and then pay you back later – they will even pay you extra to do this. This is what bonds are, and the extra they pay back is the interest on a bond.
That is why money is designed to inflate. Inflation is achieved by printing more of it over time and it is managed by changing the interest rates on bonds.
Because we add money to circulation.
Look at it this way. If you had a dollar, and your friend had a cheeseburger, you could buy that burger with your dollar. Nobody else has a dollar so why would he give the burger to anyone else? Now add in 6 more friends who each have a dollar, how do you get the burger now? You have to offer more than a dollar. Now each friend has 2 dollars, you need to offer 3. This continues untill something happens taking dollars out of circulation. That’s essentially what is happening. More people get more dollars, meaning people who have goods they want to sell will ask for more than a dollar since they can.
it’s because our money system is controlled by the federal reserve. our currency is no longer based on real world resource like the greenback was related to gold stockpile. nowadays when the govt needs to borrow money, the federal reserve just types it into a computer and poof instant money. this is what is driving current inflation. the reason inflation is so high right now is because of the pandemic bailout programs, enhanced unemployment, the stimulus, the cares act, all those trillions to keep essental businesses afloat etc. all the money came out of no where. if you’re going to save for the future it’s actually better to buy tangible goods that will scale over time. things like gold for example.
Latest Answers