194 First there will be redistribution as some peoples incomes fall behind even

194 first there will be redistribution as some

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194) First, there will be redistribution as some people's incomes fall behind even an anticipated level of inflation. Second, firms and individuals must hold money to perform transactions. Those people holding money will lose purchasing power at a rate equal to inflation. Third, firms must pay individuals to change prices. These costs are called 'menu costs,' and can be substantial at very high levels of inflation. Fourth, investors have to pay higher taxes on interest and capital gains income, as the government taxes nominal interest and capital gains income. Investors then lose real after-tax income. This is similar for individuals paying income tax, as income tax brackets are not regularly adjusted for inflation. 195) Hyperinflation refers to extremely rapid increases in the general price level. The rate of inflation can exceed thousands or millions of per cent per year. It does not commonly occur, but there are a number of instances of hyperinflation throughout history, and is has also occurred in recent times. 196) Deflation is a decline in the general level of prices; that is, the rate of inflation is negative. Deflation increases the debt burden of borrowers, as the value of the money that they pay back is greater than the value when they borrowed it. Deflation causes a decrease in the value of assets. 197) Lenders require compensation for inflation when charging interest. The nominal interest rate they charge equals the real rate of interest plus the expected inflation over the loan contract period. The interest rate they charge is determined at the beginning of the loan period, so the charge for inflation is a prediction of what the lender thinks inflation will be
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