Cost Push Inflation

Cost push inflation definition

Cost push inflation is an overall economic condition in which the prices of consumer goods increase either steadily or sharply across a broad spectrum of market sectors due to a decrease in the aggregate supply. Generally, cost push inflation is caused by significant increases in wages within the economy, increased costs for raw materials used in producing these goods, or a combination of both factors.

Increased costs

In some cases cost push inflation is caused directly by a catastrophic event or political climate that reduces the amount of raw materials available for use.  Examples include hurricanes, earthquakes, and tightening of supplies by monopolies or near-monopolies in various markets.  For instance, the oil shortages of the 1970s created an environment of cost push inflation due to the increases in the cost of transportation caused by OPEC’s reduction in the amount of oil produced and sold by their member countries. This reduction caused a significant increase in the cost of available oil and led to higher manufacturing costs, producing cost push inflation throughout the economy.

Rising salaries

Increased wages are another factor in cost push inflation scenarios. Because wages are part of the normal cost of manufacturing, increases in this area add directly to the operating expenses of companies and reduce the supply of goods that can be produced for the same investment; this situation, in turn, reduces the overall aggregate supply and drives prices for consumer goods upward. Pressure from labor unions can impact the cost of labor by creating pressure for increased wages; a general decrease in the available workforce can also result in higher wages and contribute to cost push inflation.

Cost push inflation vs. demand pull inflation

Cost push inflation is typically caused by a decline in the aggregate supply of finished consumer products. By contrast, demand pull inflation is caused by added demand for those same products; this increase in aggregate demand pulls prices upward as supplies dwindle or are expended. Demand pull inflation is usually caused by sudden increases in the economy’s money supply, increases in government spending, and global inflationary cycles that increase demand for domestic products.

Cost push hyperinflation

The most extreme form of cost push inflation, cost push hyperinflation is the result of major shortages or cost increases in the raw materials market. This is typically accompanied by monetary policy decisions that can significantly reduce investor confidence and lead to devaluation of the currency and consequent increased costs. This combination of government policy and existing shortages can create a hyperinflationary spiral wherein increased costs necessitate further increases in wages and thus further increases in costs, reducing the real value and buying power of money even more as the cycle continues. Increased costs of raw materials on the global market can also create an economic environment that precipitates cost push hyperinflation on a national or international scale.
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