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Thursday, 3 December 2009

Inflation at the micro level

Kalinka, yesterday we saw that no-one gains in SA from inflation at the macro level.

Who gains from inflation at the micro level?

Everyone who pays fixed prices and payments over time for the same real value – all else being equal. He, she or it gains in his or her personal or company capacity. It does not mean the economy gains. It may have the opposite effect in aggregate. See Zimbabwe.

You can see this too in very old lifetime fixed rentals in many cities in Europe. All these areas have been destroyed by these fixed lifetime rentals. The lessee or his or her grand children now pays almost nothing for apartments. This results in these apartments falling apart since the lessor does not get any money to invest in the maintenance of the building. This is however a much larger structural problem. Those lessees´ salaries were also not always inflation adjusted over the decades.

[Financial capital maintenance in units of constant purchasing power will eventually solve all these problems because its ultimate effect is economic stability in the real economy.]

Every month when inflation goes up a little, stays the same or goes down even, the real value of your Rands goes down a little, stays the same or maybe even goes up for one month.

So Kalinka, you gain when you pay the same price for the same products or services any time after a month from the first purchase – as long as your salary is inflation-adjusted with the change in the CPI too. If your salary stays the same and the prices stay the same you, obviously, do not gain.

Companies gain in the very short term by keeping workers´ salaries and wages the same while they put up their selling prices with inflation. This is very bad for economic stability. It is obviously the opposite of economic stability.

They did that in Zimbabwe. Companies adjusted their selling prices to keep up with hyperinflation but kept salaries fixed. They first killed their internal economy – the workers had no money to buy anything - and in the end they killed their money, the ZimDollar. There is no ZimDollar today.

In the case of money you borrow, you will gain if you pay a fixed interest rate and inflation increases, but, your salary has to be inflation-adjusted too.

In the case of your book:

Not to lose any real value you should increase its selling price every time inflation increases, i.e. more or less every month. This obviously depend on the market for your book. If there is bigger demand you may even increase the real price. Lower demand may induce you to lower your real price (by keeping it the same during inflation). The CPI (not inflation) was the same in Oct 2009 as in Sept 2009. You would not change your price when the CPI does not change. The CPI is an internal exchange rate inside the SA economy between the Rand and real value within the SA economy.

The CPI is just an index number at a date. Inflation is indicated by the change in the CPI over a period of time. From 1 Oct 2008 to 30 Sept 2009 annual inflation was 6.1%. From 1 Nov 2008 to 31 Oct 2009 annual inflation was 5.9%. But, from 1 Sept 2009 to 31 Oct 2009 monthly inflation was zero percent: The CPI was the same in Oct 2009 as at was in Sept 2009.

See Statistics SA

I hope this helped a little.

Next I will try and answer your question about who drives inflation. That is a very sensitive question.

As I stated before: inflation is not my forte. I am only really interested in getting rid of the stable measuring unit assumption in SA.

Kindest regards,

Nicolaas Smith