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Inflation may have a number of impacts on the economy:
• Redistribution from savers to borrowers. Inflation is often associated with negative real interest rates which is to the benefit of borrowers and detrimental to savers
• Impact on exchange rate. High rates of inflation would be expected to lead to a significant fall in the external value of a country’s currency. Purchasing power parity theory would support this view
• Impact on balance of payments. Inflation increases the cost of a country’s exports, making them less internationally competitive. The high price of domestic goods makes imports more attractive. The overall impact is likely to be negative for the balance of payments though this may be mitigated by a fall in the external value of the country’s currency
• Inflation will reduce real value of public and private debt
• Fiscal Drag. This occurs when tax payers experience an increase in money incomes and are “dragged” into a higher tax bracket. However real incomes may have remained unchanged or even fallen, making the taxpayer worse off
• Menu costs. These are costs which firms face in regularly updating prices
• Shoe leather costs. Inflation reduces the real value of money holdings encourages consumers to hold less currency. This will make them withdraw money from the bank more often and go shopping more often
• Possibility of hyper-inflation and loss of confidence in fiat money
• Social and political unrest, e.g. Weimar Republic
lydiajane74 answered the question on July 5, 2018 at 05:42
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