Who inflation is caused by rise in cost of

Who
is Responsible for Keeping Inflation Stable?

But first, what is inflation?

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Inflation
can be defined the rate at
which the general level of costs for products and enterprises constantly rises.
It can also be seen as a state in which a lot of cash is pursuing few products
in the economy. Inflation makes money lose its value, that is, it reduces the
purchasing power of money.

CAUSES OF INFLATION

Inflation can arise as a result of multiple factors.

Demand-Pull Inflation: This is when inflation is caused by an increase in
total demand. Aggregate demand in a country will rise if spending by
government, households and/or firms increases.1

 

Cost-Push Inflation: This is when inflation is caused by rise in cost of
production . It is passed on from firms to consumers in the form of price.

 

 

Monetary Rule: Inflation can occur when there is an increase in money
supply- the total amount of money circulating in the economy. An increase in
money supply without a corresponding increase in output will lead to inflation.

Imported inflation: increase in the price of imported materials leads to
the increase in the cost of production of domestically produced goods. Imported inflation may be set off by
foreign price increases, or by depreciation of a country’s exchange rate (imported
inflation, 2018).

 

EFFECTS OF INFLATION ON AN ECONOMY

·        
It imposes
additional costs on firms: In cost push inflation, businesses’ profits are
squeezed. In demand pull inflation, increased spending increases their profit. However,
inflation generally leads to menu costs-all inconveniences borne by firms as
prices rise.

·        
Reduces global
competitiveness: during inflation,exported goods become less competitive in
international markets leading to a deficit in the balance of payments.

·        
Economic uncertainty:

 

 

 

 

 

 

 

 

 

 

 

 

So who is responsible for the stability of
inflation?

The primary objective of the central bank is to
ensure price stability and, therefore, curb inflation. This is seen as the
primary objective because the second core objective of the central bank is to
ensure a sustainable economy. No economy can grow in the midst of price instability
or inflation so it is safe to say that the second objective cannot be achieved without
the attainment of price stability.

Central banks all over the world make use of
monetary policy in the regulation of the economy. Monetary policy is not to be
confused with fiscal policy which determines how public revenue is spent.

Central banks oversee the
financial system and may also monitor other banks to ensure that they are
financially sound and are following wise management practices, since the
collapse of any bank can have serious financial repercussions throughout the
economy, especially the local economy (thismatter) (C.Spaulding,
1982).

Methods Which the Central Bank
Adopts to Moderate the Economy

1.       
Contractionary
fiscal policy: This is a
policy used by the government to reduce the aggregate demand by reducing
government spending and/or raising total taxation. If tax revenues exceed
government spending,the bugdet deficit will be cut,thereby reducing inflation.
However, may increase unemployment (Titley, 2012).

2.       
Contractionary
monetary policy: this
involves raising interest rates and/or cutting the money in supply to reduce
aggregate demand. Increasing the interest rates will reduce borrowing. Reducing
the money in circulation will reduce the amount of money firms and households
have to spend (Titley, 2012).

3.       
Reserve
requirements: One of
the fundamental strategies utilized by every single central bank to control the
amount of cash in an economy is the reserve requirement. Generally speaking,
central banks command institutions to keep a specific amount of funds in
reserve against the  amount of net
transaction accounts. (Bajpai, 2017).

4.       
Open
market operations: central
banks can reduce the amount of money in circulation by selling government
securities and bonds to commercial banks and other institutions (Bajpai, 2017).