Hyperinflation: How does it affect the economy?

Every economy goes through ups and downs. It reaches a point of boom where every element of the economy works well, whereas during economic downturns, the entire economy suffers. While some developed countries use their resources to strategise their bounce-back after a crisis, developing and underdeveloped countries often struggle to get back in shape.

One such economic issue that can affect the entire country’s ecosystem is hyperinflation. In today’s article, we shall discuss the causes and consequences of hyperinflation. 

What is inflation?

Inflation, as we all know, is an event where the purchasing power in the economy comes down. It is where the prices of goods and services increase while the value of money decreases.

Let’s take a simple example. Let’s say that ₹50 fetches you two kilograms of onion in a usual scenario. During inflation, the same ₹50 will fetch you a lesser quantity of onions, say one kilogram.

The current inflation rate in India is about 5.09%, which suggests the average rate of increase in prices of goods and services.

What is hyperinflation?

Hyperinflation is an economic crisis where inflation is severe. The inflation rate rises above 50%, indicating that the money value has fallen drastically. Though this scenario is quite rare, economies take a long time to recover if this situation occurs. 

Causes of hyperinflation

There are many factors leading to hyperinflation in an economy.

• The exorbitant supply of money is a significant driver for hyperinflation. Sometimes, the central bank of the country prints money excessively, though the economy is incapable of producing goods and services proportionately. Such an imbalance can cause an increase in prices. A similar situation may occur if the government borrows excessively from other countries during a deficit but does not generate enough revenue in the economy.

• During instabilities in the economy due to inappropriate government strategies, political issues, etc., the country’s currency value falls, which can also lead to hyperinflation if the situation persists for a long time. Sometimes, the government consciously devalues the currency to promote exports or to clear external debts, which may also cause hyperinflation.

• Wars are one of the prominent reasons for hyperinflation. There are live examples of countries facing hyperinflation as a result of wars. The government may inject additional money into the economy to handle situations like wars and natural disasters, causing hyperinflation.

Impact of hyperinflation

• The primary impact of hyperinflation is the falling purchasing power of the country’s currency. Goods and services become expensive, due to which most citizens find it difficult to afford them, hence affecting the money flow in the economy.

• People lose interest in investing and saving since its value falls heavily.

• Businesses struggle to run efficiently, as decision-making becomes complex. They struggle to set prices, make long-term investments, pay wages and salaries, leading to employees losing their jobs.

• Financial institutions suffer from knee-jerk reactions from customers, such as withdrawal of savings, uncertainties in loan repayments, etc.

• The country’s currency takes a big hit and reduces the investor’s confidence. So, the entire economy goes through turmoil during the event of hyperinflation.

Hyperinflation examples around the world

Hyperinflation has occurred in some economies in the past. Here are a few examples:

• Germany, in the early 1920s, faced hyperinflation after World War 1 when the government printed additional currency.
• Zimbwabe faced hyperinflation in 2007 due to excessive currency printing and land reforms by the government. It is said to be one of the most severe cases in history, where Zimbwabe’s currency became worthless.
• Hungary, in the mid-1940s, faced hyperinflation as a result of World War 2.
• Recently, the government’s mismanagement and economic instabilities led to hyperinflation in Venezuela between 2016 and 2020.

Bottomline

Hyperinflation is an economic crisis where the purchasing power of money falls rapidly. The value of money deteriorates significantly each day, which will eventually lead to economic depression.

The government must be proactive in noticing the warnings of hyperinflation and take required actions such as shock therapies and aggressive measures to maintain the country’s stability.

It is equally essential for citizens to understand the economy’s performance and be prepared for such a crisis, by making the right investments in a diverse range of assets, that can support them during times of need.

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