Before ending the week, my colleague and I decided to try the ice cream machine outside our office here at Hive Up. Overpriced frozen ice.
We had this conversation about the price of a Mcdonald’s ice-cream cone over the years. A little over a decade ago, you could get it for 25 cents. Who even uses 5 cents these days?
The size and same yummy taste has remained the same over the years, but the price of the cone has increased. Why is this so?
What is inflation?
Inflation is the increase in price of goods and services in an economy over a period of time, consequently, the purchasing power of the currency decreases.
The Consumer Price Index (CPI) is widely used to measure inflation. CPI is a statistical estimate constructed using the prices of a basket of representative consumer items like bread, housing, transportation, over a period of time.
Purchasing power is the amount of physical goods and services that can be bought by a given amount of time. The relative definition of being rich may not so much depend on how much money you have but how much purchasing power you have.
Inflation isn’t scary, the decrease in purchasing power is. If your wages have increased by 3% but the prices of goods increases by 5%, after adjusting for inflation, you are actually losing 2% of purchasing power.
Why is inflation happening?
There are two types of inflation at work:
Demand Pull Inflation
Demand pull inflation happens when there is too much money chasing too few goods. When there is too much money circulating, people have more money and will bid up the prices of a limited supply of goods and services, causing prices to increase.
In mid-2017, there was an increase in the popularity of the Malaysian’s “king of fruits”, Mao Shan Wang durian. The consumers in China are willing to pay higher for the durians up to double the amount that Singaporeans are typically willing to pay. At the same time, the erratic weather pattern also caused the supply of the fruit to fluctuate. Because of the increase in demand and decrease in supply, the prices of the fruit skyrocketed from $8 to $15 per kg within a span of 2 weeks.
Last week, due to the favourable weather and overharvesting, this caused an oversupply of durians, causing some vendors to “sell them as a loss”. The oversupply caused the price of durians to plummet from $28 to $12 per kg.
Cost Pull Inflation
Cost pull inflation happens when there is a decrease in supply of an important productive resource (commodity), causing other goods to increase in price. An increase in price of crude oil will cause a cascading effect in the prices of gasoline, wheat and flour. The increase in costs of raw material might cause bread producers to produce less bread and increase its price. This is also known as supply shock. Higher wages, imported inflation and higher taxes are also factors that cause the cost of goods to increase.
Starting from 1st July 2018, the price of water in Singapore increased from $2.39 to $2.74 for the first 40 cubic metres and $3.21 to $3.69 for above 40 cubic metres. The price hike in water prices is to encourage water sustainability and conservation, especially when the price of the water supply is rumoured to increase some more.
With an increased price in water, this also means that the cost price of products that depends on its usage will also increase. You could expect to see your everyday morning coffee at your local coffee shop. Water is also used extensively in manufacturing plants for semiconductors and pharmaceutical products. The price of water has a direct influence on the cost of these products and ultimately, the price is borne by the consumer.
In summary, inflation is caused by the increased supply of money or a decreased supply of goods. In both cases, inflation is the result of having more money than goods and services in the economy.
Is inflation good or bad for our economy, and what happens when inflation gets out of control? Join us when next time in Part 2, where we will explore the effects of inflation to our economy.