What causes inflation ? Why prices rise ? Reasons of price increase

Hello,

What is the reason of price increase ? Why prices rise ? What causes inflation ?

Inflation can be caused by multiple different factors.

The main reasons why there is an inflation can be grouped into 3 categories:

• Market situation
• Government decisions
• Production costs

Market situation - can be explained by Demand to Supply ratio. When demand of some product is higher than supply, prices tend to rise. Prices can be higher if Demand is rising more than supply or if Supply is falling more than demand.

Government decisions - like fiscal policy, monetary policy, subventions, price regulation policy etc. have impact on prices. When government rises some taxes, increases government spending, lowers interest rates (increase of money supply), provides large grants or subventions, reduces price regulations, prices tend to rise. Also increase in exports or exchange rates can cause inflation.

Production costs - mutiple situations in production process can increase product's final price:

• Increased prices of inputs - raw materials, goods and services, wages, but also transport costs, customs tariffs or some taxes
• Decline in productivity

Economists also say, that inflation can be a result of inflation expectations.

Inflation expectations is what businesses and households think will happen to prices in the future. Their behaviour can influence the prices.

The best example how inflation arises is crude oil.

The price of crude oil is quite volatile and sensitive to the geopolitical situation.

In case of geopolitical tensions, the price of crude oil often rises, due to supply shortages.

More expensive crude oil => More expensive fuel => Higher costs for farmers and shipping companies => Higher prices of goods and services

Inflation Reasons:

• Demand-Pull Inflation - Occurs when there is too much demand.
• Cost-Push Inflation - Occurs where there are higher production costs.
• Build-In Inflation - Occurs because of expectations (behavior) of people. In this case, people expect higher prices in the future, what has impact on their behavior.
• External Economic Factors - Occurs for example when currency exchange rates changes make goods and services more expensive.