In the aftermath of the report showing Britain's inflation has fallen to 0.5%, we should again ask ourselves whether inflation is good or bad for an ordinary consumer.
The fact the UK CPI did not meet the Bank of England's target will make its governor Mark Carney write a letter to George Osborne explaining why it had happened. Why should he do that when low prices seem so attractive?
1) Inflation impacts wages
Companies are likely to put up wages if prices are rising. They also give employers the flexibility not to increase wages by as much as inflation, but still offer their staff some sort of rise. On the contrary, in a world of zero inflation some companies might be forced to cut wages, which would not be good for morale, recruitment or productivity. For most of the last five years inflation has been running ahead of wage rises, but thanks to inflation, wages have also been rising, even if the money doesn't go as far.
2) Governments love inflation
If a government has a deficit, it would be happy to see it eroded by inflation, which in turn would
see its own income rise. As long as there's a good dose of inflation in
the system, tax revenue should go up, even if the economy is stagnant.
3) Too much inflation is no good
It is definitely not good for the economy or individuals, if inflation gets too high. Inflation will always reduce the value of money, unless interest rates are higher than inflation. And the higher inflation gets, the less chance there is that savers will see any real return on their money, though, theoretically, that should be good for the economy, by encouraging people to spend rather than save.
High inflation produces low growth and higher unemployment, not to mention, it can also erode competitiveness.
4) What inflation target should central banks pursue?
Most central banks try to stick to the target which is around 2% or 2.5%. Some analysts argue there should be a higher target in times of recession, such as 3%, as it can promote higher growth, by keeping interest rates lower for longer.
But whatever the precise level, most do agree that a little dose of inflation is absolutely essential, as inflation is a policy.
