How inflation works: why your money buys less every year
Demand-pull inflation: why prices rise when everyone has more to spend
A town gets richer, and its ice cream gets more expensive. Why does more money to spend push prices up, and how far can it go?
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1
The new factory hires hundreds of people, and it pays well. On payday, the whole town has more money to spend. On hot days, many people take some of it to the beach for an ice cream.
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2
Miva's freezer holds 200 scoops a day, and now 300 people want one. Rono scoops as fast as he can, and by 3 pm the freezer is empty. A hundred people go home with no ice cream.
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3
So Miva raises the price from $3.30 to $4. At $4, only about 200 people still want a scoop. She sells all 200, so she keeps the new price.
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4
The same thing happens at the café, at the hairdresser and with homes to rent. Everyone has more to spend, and the town cannot make more coffee, haircuts or homes in one day.
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5
Economists have names for the two sides. Demand is what people want to buy and can pay for. Supply is what sellers can make. When demand grows faster than supply, prices are pulled up. This is called demand-pull inflation.
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6
But summer ends, and prices still rise the next year, and the year after. They rise almost every year. Is somebody making new money all the time? And who?
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Quick check
The famous bakery.
Show the answer
It goes up. Many more people want the same 100 loaves, so the baker can raise the price and still sell them all.
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Go further
Two words that come with demand-pull inflation.