This is a very easy topic to understand, so this video will be relatively short.
In an Inflationary Environment, if your wages are not going up at least in line with the inflation rate then you are losing out in real terms.
This means that you are, in effect, taking a pay cut because the currency you are being paid in is losing its Purchasing Power due to the pernicious effects of inflation.
Inflation, rising prices & purchasing power
People tend to think of inflation as being rising prices because rising prices are where the consumer feels the hit. But, in my opinion, it’s a mistake to think of inflation in this way. Rising prices are the end result of inflation.
I would suggest that a better way to think about inflation, is to see inflation in terms of purchasing power. “Purchasing power” is the ability of a currency to pay for goods and services.
Purchasing power –weight-lifter analogy
A good analogy to help people understand the notion of Purchasing Power is to think of a weight-lifter lifting barbells.
How much weight a weight-lifter can lift depends on how strong he is, or to put this another way how powerful he is.
If the weight-lifter is strong and powerful, he will be able to lift a lot.
If the weight-lifter is not so strong and powerful, he won’t be able to lift quite so much.
If the weight-lifter is weak, he won’t be able to lift anywhere near as much as a weight-lifter who is strong and powerful.
This is common sense.
The same is true with regard to a currency.
If the currency is strong and powerful, it will be able to purchase a lot.
If the currency is weak, it won’t be able to purchase a lot.
So, when the purchasing power of a currency decreases, the ability of that currency to pay for goods and services decreases.
In Economics, everything is relative. The currency has lost some of its purchasing power in relation to the product.
The consumer experiences this loss of purchasing power as rising prices, or as things becoming more expensive. So, where before a carton of milk cost say $1, now it costs $1.50.
It must be understood that the product itself hasn’t changed – milk is still milk.
