Inflationary Pressure

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21 Aug, 2024

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Inflationary Pressure Meaning

Inflationary pressure is excessive pressure by the demand and supply forces on the prices within the economy. The production of money over the amount needed to meet the demand for goods and services and industrial output is another factor that might contribute to inflation. The prime reason for this is demand pull and cost push inflation.

Many internal and external factors affect inflationary pressure. It includes fiscal policies, climatic factors, global commodity prices, market forces, and others. It helps to speed up the wage rate of the laborers. Less pressure increases investment opportunities within the country. However, high inflationary pressure can cause hyperinflation in the economy.

Inflationary Pressure Meaning

Inflationary pressure is the pressure exerted by the demand and supply forces during inflation. It is similar to the high inflation crisis.
The main causes of this pressure include fiscal policies, demand-pull, and cost-push inflation.
The word became quite well-known in the market in the 18th century. John Keynes, an economist, proposed the inflation theory in the middle of the 20th century.
In this situation, an excess of demand over supply in an economy or vice versa. As a result, economic pressure increases to adjust to the demand and supply.

Inflationary Pressure Explained

Inflationary pressure is the pressure exerted on the economy that increases prices. It primarily brings on inflation. Due to these pressures, either more items are produced to keep up with or surpass customer demand, or prices rise as a result of a shortage of supplies. Due to supply and demand, inflationary forces lead the economy to change.

The effect of the inflationary pressure curve is the same as that of Inflation. Inflationary pressure causes, like fiscal policies and demand and supply forces, affect commodity prices. However, among the causes, government policies remain a significant cause.

This pressure occurs when the demand is very high than the supply. For example, if the demand for wheat grain in the United States is 30 million, but the supply is only 10 million, inflation occurs. In such a case, there is enormous pressure on suppliers (firms) to fulfill the present demand. They have limited resources at their disposal. Thus, the prices rise, leading to high or low inflationary pressure. Likewise, if the prices of factors of production, like raw materials, exceed, it will cause inflation.

History

Although inflation has prevailed since ancient and medieval times, excessive hoarding of metal coins led to a country's currency shortage. As a result, in the 18th century, the term got extensively popular within the market. Finally, in the mid-20th century, economist John Keynes gave the inflation theory. Keynes stated that increased demand over supply would cause an inflationary pressure curve.

After World War II, the German government and other economies saw massive Inflation in their respective countries. Significant demand-pull inflation raised in these economies. As a result, underdeveloped and developing nations saw high inflationary pressure. In contrast, Zimbabwe increased its money supply. Thus, they faced massive hyperinflation within their country.

Factors

Let us look at the inflationary pressure causes that affect the economy:

#1 - Fiscal And Monetary Policies

The handmade drafted policies by the government have been a significant cause of high or low inflationary pressure. For example, they might increase taxes or tighten monetary policies to reduce spending. As a result, the aggregate demand will adjust to the aggregate supply. However, if they try to reduce or loosen up the controls, it can lead to high inflation pressure.

#2 - Demand-Pull Inflation

An excessive demand over a short supply usually leads to Inflation. For example, after the second world war, the demand surged high. As a result, countries lacked fulfilling the inflationary gap between them.

#3 - Cost-Push Inflation

Cost-pull Inflation occurs when raw materials, technology, or labor prices surge. As a result, the ultimate prices of commodities will rise. Therefore, maximum pressure from the supply side leads to Inflation.

Inflationary Pressure Curve

Inflationary pressures are demand and supply-side factors that may raise the price level. A positive output gap results when the actual gross demand product (GDP) is higher than the potential GDP. Demand-pull inflationary pressure is at its highest in such times. On the other hand, cost-push inflationary pressure can develop due to increased import prices, growing unit labor costs, and rising prices for raw materials, fuel, and production-related components. Let us understand the concept better by understanding the following graphs.

#1 - Demand-Pull Inflation Curve

It is also known as Consumer Price Inflation. It is because prices are under pressure to rise when the overall demand for an economy's goods and services grows more quickly than the supplier's productivity. As a result, businesses can raise prices without endangering sales since the strong demand for goods and services means supply cannot keep up.

It results in a new equilibrium being achieved at a higher price point and a greater level of output (gross domestic product) in the economy, as seen in the graph below, where a rightward shift of the demand curve represents the rise in demand.

As a result of consumers having more money to spend, the economy experiences a rise in demand when central banks expand the money supply and governments turn on the fiscal stimulus taps. In the short term, prices rise due to enterprises' inability to expand capacity to meet the increasing demand.

For example, part of fueling the surge in Inflation is the fiscal and monetary stimulus that the governments implemented to promote COVID-19 recovery. In addition, the rise in demand the government is generating to aid in the recovery of the GDP and employment is the cause of this inflation after COVID.

#2 - Cost-Push Inflation Curve

Inflation, driven by costs that result from increased manufacturing costs being passed on to final consumers, is the flip side of the coin. The supply will decline at every price point as production costs rise. The supply curve moves to the left in the graph below demonstrates this. The curve's change establishes a new equilibrium at a higher price point and lower output level.

Supply chains are affected by the economy's rising costs for raw resources, including copper, oil, and steel. In addition, even while capacity and worker hours are being reduced in the industry, workers in some areas, such as the service sector, demand better salaries to re-enter the labor. As a result, prices will gradually increase due to rising wages and the cost of raw materials as they move up the value chain and onto the shelves of supermarkets and department stores.

Examples

Let us look at the examples of inflationary pressure to understand the concept better:

Example #1

Suppose the United States government has seen active spending in the fashion and commodity sectors. The Treasury Department notices the rising demand in the food industry. However, the supply is not sufficient enough to fulfill its needs. Thus, they develop new fiscal policies to tackle the inflation pressure on the economy. Out of this, people reduce their spending and adjust themselves to Inflation.

In contrast, active spending indicates the willingness of consumers to buy and pay. As a result, the firms increase the supply. But, since the government restricted consumer spending, an excess supply over demand occurs. Therefore, there is again pressure created on Inflation.

Example #2

According to recent reports, the International Monetary Fund (IMF) has expected inflationary pressure in the economies worldwide. By late 2022, the advanced countries might face Inflation of 5.7%. The emerging market will see a rise of 8.7%. At the same time, it is 1.8% and 2.8% in developing nations.

Frequently Asked Questions (FAQs)

What is the difference between inflationary pressures and gaps?

Although both are pretty very similar, there is a difference between them. The inflationary gaps are the projected GDP (Gross Domestic Product) over the actual. At the same time, the inflation pressures include excess demand or supply over each other. As a result, the prices rise, causing Inflation. While both are macroeconomic concepts, the former speaks about market forces (demand and supply), whereas the latter considers employment and GDP.

How does inflationary pressure impact the economy?

Inflation pressure impacts consumer spending in the economy. Also, investment growth rises with employment. However, increasing pressure can cause hyperinflation.

What is inflationary pressure performance appraisal?

Inflationary pressure performance appraisal is the pressure of equality among the employees in an organization. But, it's a kind of fear within them for partiality bias.

What is an indicator of inflationary pressures?

Increased demand over supply or excess supply over demand indicates inflationary pressure. For example, if there is a limited supply of food grains within the economy.