What is hyperinflation?
Hyperinflation is a term to describe rapid, excessive and uncontrollable price increases in an economy. While inflation is a measure of the rate of increase in the prices of goods and services, hyperinflation quickly increases inflation.
Although hyperinflation is a rare event for developed economies, it has occurred repeatedly in history in countries such as China, Germany, Russia, Hungary and Argentina.
Hyperinflation occurs when prices have risen more than 50% per month over a period of time. For comparison, the rate of inflation in the United States, as measured by the Consumer Price Index (CPI), is generally less than 2% per year, according to the Bureau of Labor Statistics. The CPI is only a price index for a selected basket of goods and services. Hyperinflation means that consumers and businesses need more money to buy products because of the higher prices.
While normal inflation is measured in terms of monthly price increases, hyperinflation is measured in terms of exponential daily increases which can approach 5-10% per day. Hyperinflation occurs when the inflation rate exceeds 50% over a period of one month.
Imagine the cost of food shopping going from $ 500 per week to $ 750 per week next month, to $ 1,125 per week the following month and so on. If wages do not keep pace with inflation in an economy, people’s standard of living declines because they cannot afford their basic needs and the cost of living.
Hyperinflation can have a number of consequences for an economy. People can hoard goods, including perishable goods like food, because of rising prices, which in turn can create food shortages. When prices go up excessively, cash or savings deposited in banks decrease in value or become worthless, because money has much less purchasing power. The financial situation of consumers is deteriorating and can lead to bankruptcy.
In addition, people may not deposit their money, with financial institutions closing banks and lenders. Tax revenues can also go down if consumers and businesses cannot pay, preventing governments from providing basic services.
Key points to remember
- Hyperinflation is a term to describe rapid, excessive and uncontrollable price increases in an economy.
- Hyperinflation can occur in times of war and economic turmoil, followed by a central bank that prints an excessive amount.
- Hyperinflation can cause commodity prices – such as food and fuel – to soar as they become scarce.
Why hyperinflation occurs
Although hyperinflation can be triggered by a number of reasons, here are some of the most common causes of hyperinflation.
Excessive supply of money
Hyperinflation occurred in times of severe economic turmoil and depression. A depression is an extended period of a shrinking economy, which means that the growth rate is negative. A recession is usually a period of negative growth that lasts more than two quarters or six months. A depression, on the other hand, can last for years, but also presents extremely high unemployment, bankruptcies of companies and individuals, lower production and less available loans or credits. The response to a depression is usually an increase in the central bank’s money supply. The extra money is designed to encourage banks to lend to consumers and businesses to create spending and investment.
However, if the increase in money supply is not supported by economic growth as measured by gross domestic product (GDP), the result can lead to hyperinflation. If GDP, which is a measure of the production of goods and services in an economy, does not increase, firms raise prices to increase profits and stay afloat. As consumers have more money, they pay higher prices, which leads to inflation. As the economy deteriorates further, businesses charge more, consumers pay more, and the central bank prints more money, resulting in a vicious circle and hyperinflation.
Loss of trustworthy
In wartime, hyperinflation often occurs when there is a loss of confidence in a country’s currency and the ability of the central bank to maintain the value of its currency thereafter. Companies that sell goods inside and outside the country demand a risk premium to accept their currency by raising their prices. The result can lead to exponential price increases or hyperinflation.
If a government is not managed properly, citizens can also lose confidence in the value of their country’s currency. When money is perceived to have little or no value, people start to accumulate valuable goods and goods. As prices start to rise, basic commodities – such as food and fuel – become scarce, causing an upward price spiral. In response, the government is forced to print even more money to try to stabilize prices and provide liquidity, which only exacerbates the problem.
Often, the lack of confidence is reflected in the outflow of investment leaving the country during times of economic unrest and war. When these outflows occur, the monetary value of the country depreciates as investors sell investments from their country in exchange for investments from another country. The central bank will often impose capital controls, which prohibit the transfer of money out of the country.
Example of hyperinflation
One of the most devastating and prolonged episodes of hyperinflation occurred in the former Yugoslavia in the 1990s. On the verge of national dissolution, the country was already experiencing inflation at rates above 75% per year . It was discovered that the then head of the Serbian province, Slobodan Milosevic, had looted the National Treasury by asking the Serbian central bank to issue $ 1.4 billion in loans to his friends.
The theft forced the government’s central bank to print excessive amounts of money in order to meet its financial obligations. Hyperinflation quickly enveloped the economy, wiping out what was left of the country’s wealth, forcing its people to trade goods. The rate of inflation almost doubled every day until it reached an unfathomable rate of 300 million percent per month. The central bank was forced to print more money just to keep the government running as the economy soared.
The government quickly took control of production and wages, which led to food shortages. Revenues fell by more than 50% and production stopped. Finally, the government replaced its currency with the German mark, which helped stabilize the economy.