Who is Affected by Inflation? - Video Tutorials & Practice Problems
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Who is Affected by Inflation?
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So now let's discuss how inflation affects different members of the economy. So remember inflation just like we've been discussing is an increase in prices, right? It's a general increase in the price level, So something cost $100 last year, and now it's 100 $5 it is increasing in price. Now there's two types of inflation, we can anticipate the inflation we can expect what's going to happen, oh the price levels are going to increase by about 2% we can expect in the next year, and that's gonna be an estimate Of the amount of inflation that's gonna occur we're estimating in the next year we're expecting 2% inflation, something like that. However, a problem arises when we have unanticipated inflation, what if we were expecting 2% inflation and now there's 5% inflation, 6% inflation. Right? That that can cause problems to different people in the economy. Let's start with the people who get hurt by this unanticipated inflation. People who who do not like unanticipated inflation The first one is fixed income receivers, so imagine if you're earning a fixed income, your salary is staying the same, you're always, let's say your salary's $50,000, well that is going to be your salary regardless of the price level, right? If you're if you're inflation, if your salary is not changing, but the prices are going up, that's gonna suck for you. So uh some example, some examples of some fixed income receivers are retired people that have like a pension that they're just living off a pension that pension is not going up over time, and the prices are going up over time. So their purchasing power uh falls and landlords that receive fixed lease payments. So if someone is renting out an apartment, but they're not increasing the rent year after year, they're keeping the rent stable. Well, they're going to be hurt by these, by this inflation. Uh and the rising prices. Okay, so if the nominal income is constant, think about your nominal income is constant while prices are rising. Well, what's happening to your real income? What happens to your purchasing power? It decreases, right? Because your nominal income, the dollars that you're receiving are staying the same, but the prices of everything are going up, so the real income goes down, we can think of real income as kind of like that purchasing power. Next person who's hurt by unanticipated inflation here is a saver. Someone who's saving money and basically, the rising prices, the inflation is going to hurt the the savings, just like we saw when we calculated nominal interest and real interest. Well, you're not getting exactly what that nominal interest rate is because of the inflation, right? You're getting a little less the real interest rate. Now, someone who's really hurt by it is someone who's hoarding cash, like someone who puts cash under their mattress. Well that cash isn't earning any interest, right? It's just sitting there and it's the same amount of cash being saved all the time, And you're not earning any interest. But those price levels are going up. Okay, so notice what happens here. Someone who had been hoarding cash between 1985 and 2009 would have lost half its value by not getting any interest but those price levels increasing. So that's pretty significant there. Now, even if you're earning interest, just like I said, if you're earning interest in a bank account, the real interest rate will fall. And if you want more information there, uh you can reference this video nominal interest, real interest fishery equation. Right? And we discussed how inflation affects those interest rates. The last big group here hurt by inflation. Our creditors. So creditors are people who loan out money. Right? So inflation is going to cause the principal what they get repaid. So let's say I loan you $1000 today And you're gonna pay me some interest. Right? I expected inflation, you know to be 2%. So I calculated that into my calculation of what I was gonna charge you interest. However inflation ends up being 10% or something way higher than I expected. And when you repay me that $1000 that money I loaned you had more purchasing power than it did now, right? The $1000 I loaned you was able to buy more because inflation now makes that purchasing power less of the $1000 you repaid me. Okay, so the creditor is hurt. So right, first bank loan loans $1000 there's unanticipated inflation five years later when they received that $1000 back. Well it's not worth as much as when they loaned it. Cool. Alright. Let's talk about some people who are helped or simply just not affected by inflation. So someone generally not affected here would be a flexible income receiver. So someone who gets paid flexible income and generally this is people with cost of living adjustments. So cost of living adjustment, it could be in their contract and this comes up a lot. Oh I have it written here, you Union contracts generally have a cost of living adjustment in the contract. Um that adjust for inflation. So it could say in the contract, hey the salary is 50,000 but each year the salary needs to go up at least 2% for a cost of living adjustment. Right? Another one is Social Security payments. So Social Security, the payments of Social Security also have a cost of living adjustment built into them. So the inflation doesn't really affect you because your income is going up based on that inflation as well. Someone who gets helped here well is a debtor on the opposite side of the creditor example that we just talked about who's hurt. Well the person who borrowed the money is going to be helped right? Because the inflation is gonna cause the balance to have less purchasing power when they repaid it. So bob borrows $1000 from the bank. Right now there's a bunch of inflation and later on he has to pay back the 1000 that has less purchasing power in the future, he might be able to earn it a little easier that $1000 he's repaying. Okay, so that's an interesting thing to think about when, when we deal with inflation because we generally in our head are thinking oh inflation is a bad thing, but there's actually two sides to the issue there. Cool. Alright. Not much more to say about this. Let's go ahead and move on to the next video.
