An economist who has probably been asked this thousands of times will look at you and simply state ‘inflation’. Inflation is the price rise of things we buy over time.
Inflation applies to everything from a banana to an entire house and it’s affected by how much money we all have and other social and economic influences.
If we all have more money than stuff, everyone jumps in the car like “get in loser, we’re going shopping.” But! The number of things available to buy stays the same, and the result? Prices rise. That’s one way inflation and hyperinflation happens.
Okay, but why can’t we just print more money and control inflation?
If the Reserve Bank of Australia (RBA) prints more money, it increases the supply of money floating around the economy. You might say to that, “yes, isn’t that the point?”
That is the point. The challenge is, now, there’s more money for the same amount of ‘stuff’ for people to buy. If you had $100 in your account and, overnight, the RBA prints money, your $100 is now worth less because there’s more $100s floating around. Everyone is using their $100 to buy things which means demand for those things increases. As a result, businesses may put their price of things up.
Printing money would be the result of the RBA making decisions on ‘supply’ and ‘demand’ in Australia. When we print money, the supply of money increases, demand for goods increases. If the supply of goods stays steady, but doesn’t increase in line with demand, then prices increase. What you bought with $100 yesterday costs more than $100 today.
We actually have ‘printed’ money in Australia
In 2020, we actually did (sort of) ‘print money’. To stimulate the economy, the RBA lowered the cash rate to encourage banks, like us, to lower interest rates. Lower interest rates have a similar effect to printing money because more people are encouraged to take out loans for things like cars and homes. That creates more demand. But what if there aren’t more homes to buy? Prices increase and ~ inflation ~ happens when buyers (demand) are all trying to buy the existing houses (supply).
Why does the RBA need to keep an eye on inflation?
Inflation isn’t necessarily a bad thing but it needs to be managed so it doesn’t spiral out of control. The RBA keeps an eye on inflation to keep things steady.
Let’s pretend last year, you paid $1 for one banana at your local market. This year, the banana is $15 because inflation is out of control. You earn $30 an hour, so a banana went from costing you a small amount (roughly 3%) of what you earn each hour to costing you 50% of what you earn each hour. You decide to not buy the banana, obviously. You, and a lot of other people, stop paying for bananas. The banana industry shrinks and people who work in it are given less work.
This is an extreme example, called hyperinflation, but it explains why the RBA’s aim for inflation is to keep it steady and predictable. Their goal is to keep inflation between 2% and 3%. For example, if your banana costs $1 last year, the RBA make sure that this year, it’ll cost between $1.02 and $1.03. You’re okay with that, because, in an average year, your wages have risen slightly and the price is stable. If the price is stable, you continue to buy bananas, the market owner continues to order them, the banana industry increases slightly so hires more people and produce more bananas.
But what caused the imaginary banana to rise to $15 in one year?
In 2011, this actually happened and there was a simple answer: Cyclone Yasi hit Queensland, wrecking banana plantations and decimating the number of bananas available to buy in Australia. Bananas rose from a few dollars per kilo to $15 per kilo because there were hardly any bananas available (a reduction in supply) but the same amount of Australians still wanted their bananas (demand) and so businesses increased the prices. This is a major driver of inflation and hyperinflation: When more people want the same amount of stuff because more isn’t being made quickly enough.
In that example, banana demand outstripped banana supply and prices rose. When you print money, it can have the same outcome: people have more money + supply stays consistent = prices rise.
There’s actually multiple factors that impact inflation across the economy and, most of the time, they all cross over and make the real cause hard to point to. Some of them are:
- Government regulation
- Tax cuts
- Higher production costs for businesses
Adding to all this, printing money and the actual causes of inflation are hotly contested! Do we encourage you to go down an internet rabbit hole on the causes of inflation? Our resident economist says yes, the rest of the team say no.
Learn more about the RBA, the cash rate, how inflation is factored in and why you should care.
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