Inflation - what, how and why

Jonáš Baldík
Today's article introduces the popular concept of inflation - what it is, what influences it and how can people defend against it.

What is inflation?

Inflation - a word that has been bandied about by many (not only) economists over the past year. The consumer price index (which is the way inflation is expressed) essentially tells how much the prices of most of the goods consumed in the Czech Republic (or other country where it is measured) have increased over the period under review. In other words, it says that if I bought a certain good last year for CZK 10, this year, with a hypothetical inflation of 10%, I will need CZK 11 for that good.

By "consumer goods" we can imagine everything that people spend their money on - from rent to energy to food, clothing, electronics and so on. At the same time, it should be noted that inflation is calculated on the basis of so-called representative items - the Czech Statistical Office has compiled a "consumption basket" that includes items of goods and services (there are around 450 of these items); the CSO then examines the year-on-year price change for these items.

How to read inflation reports correctly?

As already mentioned, inflation is measured over a certain period of time - monthly and annual values are most often quoted. Here we also have to dispel a highly illogical, but unfortunately still widespread myth - inflation only shows the rate at which prices are rising, and a reduction in this rate does not lead to a reduction in consumer prices (although this idea was also held by an unnamed finance minister); a fall in the rate of growth only means that prices are rising more slowly. So if May's annual inflation is at 11.1% and March's annual inflation was at 16.5%, it does not mean that prices are falling - they are just rising more slowly.

What affects inflation?

In general terms, it is not possible to say what is behind the year-on-year price increases, as these figures vary for each item. For the sake of clarity, we will explain it here by looking at tomatoes imported from Spain into Czech shops. There are many possible influences: price rises by tomato farmers due to low yields (if yields are low throughout Spain, tomatoes will be scarce and will become 'low yielding'). Other influences may be an increase in the price of fuel (and therefore an increase in the cost of transport from Spain to the Czech Republic); an increase in the cost of energy in the Czech shop (lighting, cash register operation, etc. are more expensive); or higher labour costs for shop assistants. Last but not least, the exchange rate between the koruna and the euro may also raise the price - if the euro becomes more expensive, the amount paid by the shop to Spanish farmers will be higher than if the exchange rate had not changed. All of these (and many others) can have an impact on the price of goods and services, as these are increased costs that the trade must be able to pay if it does not want to go out of business.

How to defend against inflation?

Broadly speaking, fighting inflation is the job of the CNB, which makes money more expensive by raising interest rates (these interest rates make credit more expensive, which in theory should result in less money entering the system). Citizens themselves may find it difficult to fight inflation, but they can influence their own budgets - investing or putting surplus money into savings accounts, keeping a close eye on household spending and cutting unnecessary expenses, and in the most serious cases finding another source of income.

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