Other Effects  of Inflation

Other effects of inflation can be summed up as follows:

(i) Inflation creates uncertainly in the economic activities. The entrepreneurs are discouraged to take business risks. As a result, they invest in real estate and speculation. So, the production is adversely affected.

(ii) There is diversion of resources from the production of (low profit generating) essential goods to (profit prone) luxury goods industries, resulting in shortage of essential consumer goods for the common man. Consequently, the prices of these goods further move upward.

(iii) High cost economy adversely affects the competitive base of the country in the international market. On account of rising demand (causing demand pull inflation) and / or otherwise rising prices, volume of exports fall. Further, imports become relatively cheaper. Hence, foreign trade is adversely affected by inflation (demand pull or cost push). People lose confidence in their domestic currency and rush for relatively stable foreign currency to safeguard their interest.

(iv) On account of (demand pull) inflation, private investment increases multifold. With real capital investment, capital formation is promoted. Investors may also hoard products to gain more profits, resulting in black marketing. With globalization and open door policy, foreign direct investment is also encouraged.

(V) The tax revenue of the government rises, which can finance the growing public expenditure. Further, the real burden of the public debt decreases.