why is there inflation hitting us now?

I have previously covered the topic of inflation (you can read about it here). Today however I want to cover the reasons inflation is happening. This topic might not be everyones cup of tea. I strongly believe that knowing the causes for something helps finding best possible solutions to tackle it.

According to economic folk there are two key reasons for inflation. These are called “demand-pull” and “cost-push”. I will explain both of these in very simple terms. Some real life examples will make it even clearer and easier to imagine. The examples I will use will be linked to what happened in 2021 post the pandemic. This will make it easier for you to see the reasons inflation is the topic of the moment.

I should also add to the above that the uncertainty around the situation in Eastern Europe doesn’t help the inflation currently. The war in Ukraine is pushing the commodity costs significantly driving inflation to even higher levels.

demand-pull(-ing) the inflation

There are two ways to look at this one. Part of inflation can be caused by governments printing more money. Yes, they actually do that – I know, it’s crazy, wish I had a printer like that. The other part is all of us – consumers. As demand for goods and services grows ahead of supply this effect can take place.

One scenario is when economy is on the up and performing extremely well. Most people are employed with companies finding it hard to get labour. As a result, they have to start increasing their wages quickly to attract the right people they need. As a result, workers are paid more while performing similar tasks.

This results in public being able to treat themselves to goods they want. Potentially one of the new trendy sneaker brands all of a sudden sees crazy demand which they can’t fulfil. One option they have – put prices up as they see shoppers are being able to pay a higher price.

Another example of what happened during 2021 in the UK and I believe many other places is something we rarely see happen at all. Prices for second hand cars went up all of a sudden. Few factors played a role here clearly. Crucial part of this issue was clearly supply chains. Also, the fact that all of a sudden people started moving to the countryside. Others were less comfortable using public transport. Some wanted an opportunity to explore the UK while foreign holidays were not an option.

The result of all of the above is the demand for cars jumped all of a sudden. Manufacturers didn’t have capacity to meet the demand. There were not enough parts to produce new cars. Also, people were not able to work due to COVID.

As people previously stayed home and many managed to save up – there was more cash to spend. The weird result we observed – there was competition between buyers to actually buy a car. The result is something I don’t remember seeing before – the second hand car market going up in price!! Not the collectible cars. The normal everyday cars becoming more expensive by day.

cost-push

While consumers play a role in this one as well through the increased wages that they demand. By far the bigger part of this aspect is the increased cost of inputs that accumulate through the supply chain.

Manufacturers need to offset the increase in their costs. They often pass this on to the consumer. This results in prices of an end product going up and creating the inflation effect. One would ask – so why do the raw materials actually get more expensive?

This isn’t always as simple as everyone would like it to be. It isn’t always necessarily that farmers just simply get greedy and want more cash for their crops. You need to keep in mind though – they do need to increase the prices as they also need to earn slightly more to be able to offset the impact of the inflation.

One other reason basic raw materials can go up in price is either things like significantly increased demand or things like bad weather conditions. Let’s imagine strawberries and the weather they need to grow. If all of a sudden the weather gets colder or there is more rain – there simply won’t be enough strawberries to harvest.

If you want to see this play out it actual graphs of some of the commodities. You can look up price for things like coffee or cocoa here. Try to overlay the graph with major weather warnings in the regions that supply the most of these commodities. It clearly isn’t only the weather that plays its part. However this should give you an idea of what cost-push inflation actually implies when linking this to inflation.

As mentioned above – the current situation in Ukraine will also contribute to this. Ukraine is a major global supplier of things like grain, corn, seeds and a lot of other commodities. The fact that demand is now challenged pushes the prices up. Even if supply isn’t impacted right now – there is uncertainty if this will be the case tomorrow.

I hope by now you have developed a better understanding of what inflation is and what are some of the key causes for it to happen. One inflation linked topic that I will cover in one of my next posts is probably the one you are actually the most interested in – what can you personally do in order to fight the inflation and make sure you retain your purchasing power over time.