Question

Explain what the “Great Inflation” was. Identify the basic causes and types of inflation that were responsible for this.

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Answer 1

Inflation is defined as an increase in the general price level for goods and services. It occurs when there is a sustained rise in prices across the board and not simply a price increase of one specific good or service. The Great Inflation is defined to be a macroeconomic period of the second half of the twentieth century, which lasted from 1965 to 1982. Over the nearly two decades it lasted, there were four economic recessions, the international monetary system established during WW II was abandoned, two severe energy shortages, and the unprecedented peacetime implementation of price control and wages.

In the 1960s, the prominent economists and Fed officials generally believed expansionary monetary policy could propel the nation toward full employment. They believed that inflation elevated levels brought about by expansionary monetary policy would be tolerable as long as the policy brought unemployment down to its natural rate and spurred growth of economy. Underlying this policy was the Phillips Curve, which states that a trade-off exists between unemployment and inflation. As few policymakers believed unemployment was above its natural rate at that time, thus were more inclined to permit inflation to rise and allowed to move the economy toward its potential output. But the natural rate was often underestimated. It was observed that the Fed have overcommitted to its expansionary monetary policy stance as it was constantly aiming for however never able to achieve - an "optimal" 4 percent rate of unemployment. The experience of the 1970s caused economists and Fed officials to abandon the notion of an exploitable Phillips curve trade-off. The policy makers changed their views about the economic costs of reducing inflation, led them to pursue a disinflationary policy by 1980

The main four types of inflation, categorized by their speed, are creeping, walking, galloping and hyperinflation. Few experts say cost-push and demand-pull inflation are two more types; however they are causes of inflation. The galloping occurs when the inflation increases to 10 percent or more, it wreaks absolute havoc on the economy as it occured during great inflation. The money loses value so fast that employee and business income can't keep up with prices and costs.