Technically it is the declining of purchasing power of a currency or an increase in the prices of goods and services we buy.
The reason for increased prices is mixed. I will divide into three groups in order to facilitate analysis.
Inflation by increasing demand: During the 60 Phillips, Solow and Samuelson developed a study where a graph prepared by putting on the vertical axis the level of price variation and in the horizontal the unemployment rate. Placing the U.S. time series concluded that unemployment and inflation are inversely proportional. This is that if unemployment rises the prices are reduced but if unemployment levels goes down the prices rise. This is called the Phillips curve. However this was questioned in the seventies where they had high levels of inflation accompanied by high unemployment, the so-called stagflation. In any case where there is rapid economic growth, if the increase in the purchasing power of people if it is not accompanied by enough supply of goods to meet this new purchasing power it causes inflation. In developed countries generally ensures that the economy is not growing very fast because there may have inflation. Perhaps, a level of inflation is not the problem, the problem is that usually after inflation there is recession. For the capitalist economy it should be an unemployment level of around 3%. This is so because if unemployment is much reduced new investors will be difficult to get the workers they need because the vast majority of the people are working and the minimum percentage of unemployed are not eligible to be hired. So they will need to get the people that are already working. To convince them to leave their current job they will have to offer higher wages. When the current employers see that their workers are going to lunch and not return to their jobs, they begin to investigate what it is. When they see that they are changes their jobs and go to the competition they offer a rise of salary to the remaining workers for them to stay. This creates an increase in cost and because the salary is a determinant of price, they must raise prices of articles to cover the rising costs of labor. This starts an inflationary spiral that ends at the time of falling into recession.
In Panama, for example, part of the price increase has been due to the arrival in our country of a plural number of foreigners with greater purchasing power than the national average. Some are called baby boomers. This name arises because it is the generation that was born during the economic boom that germinated after the Second World War. This is between 1946 and 1960. These children were born in a boom period had therefore the best conditions to grow and develop good levels of income. These babies are now over sixty and are retreating. Retirees are good levels of savings looking for a quiet place to retreat away from the stress of his country and the way they have the money to decide where to locate. A portion of these baby boomers have decided to retire in Panama and occupy much of the apartments being built in Paitilla, Costa del Este and Punta Pacifica. By having high income levels are willing to pay more for the product available in supermarkets. This leads to the owners of supermarkets raise the wreck of the food products so they also raise their profits at the expense of Panamanians that unlike the baby boomers do not have this high level of income. But not only the baby boomers, also Venezuelans who derive their income of colossal rise in oil prices and they spent it heavily abroad, with the refrain “is cheap give me two”. They are those who stroll through the malls, and restaurants, while Panamanians watch with disgust as sellers and waiters leave them with the word in the mouth when they see someone entering with a foreign accent.
The rising inflation costs: This is set by the increase in oil prices or agricultural inputs, pesticides, electricity, taxes, for example, or for any other costs that determine which employers, with the aim of not reducing its rate of profit, pass to the final price that consumers pay it, bringing with it the price level
Inflation by printing money: Although not the case of Panama, because we have seen in previous articles that we are dollarized, that is we have no monetary issue, we must explain to the convenience of interested readers and those living outside our country. Some governments issue too much paper money just to meet the pressure of wage increases for the military, police and public employees or to develop campaign activities to prevent the opposition wins or simply irresponsible handling of economic policy. When raising the level of paper without a rise in the number of products, the value of money decreases, thereby creating inflation. This irresponsible policy can create a spiral that will not only determine that there is an even worse inflation but hyperinflation. This is a crazy and desperate race of prices usually settles with a shock policy where the government froze wages and allowing prices to rise until gravity makes them go down again in a few months, stopping hyperinflation and allowing to starve those who cannot stand the shock.
Inflation drives ultimately to a recession. If an employer has a cheese factory and sees that the price of milk rise, thus he raises the price of cheese. Then if the milk is raised once again he will raise the price of cheese in an amount similar to the increase of milk plus one extra to cover the possible further increase later. It is possible that the consumers keep buying but not paying the price difference very willingly, especially those who like cheese on breakfast or likes lots of cheese on their pizza. But there comes a time when prices rise to levels that buyers decide they cannot afford the increase. After that, starts to increase inventory of cheese in the factory in our example. Orders are reduced, then there are cancelations in the orders previously requested. When there is no more room to put more cheese because refrigerators, offices and corridors are filled to bursting it is decided to stop production.
After a few days they observe employees playing cards in time for work the employer will say angry I could not pay salaries of employees who do not work so he fire without further processing until it can start production again. Without knowing he is reducing the purchasing power of people and thus reducing the possibility for improved demand. Perhaps some employers know this, but are not willing to blow themselves up hoping to change the sign of the economic situation. That leads to other employers who also have reduced sales to reduce payroll, further limiting demand. At that time we have fallen into recession.
The recession is merely a contraction of economic activity. So in developed countries which of course like all civilized countries have a central bank, they see that unemployment is being reduced to dangerous levels, raising the interest rate market to "cool down" a bit the economy and prevent fall in inflation and from that point to avoid what he most feared: the recession.