Inflation Theories - Costs of Inflation - Who pays?

Inflation will not only affect individuals, but will also cause problems for the whole economy. The costs of inflation include:

• Uncertainty - if inflation keeps varying, then firms may be reluctant to invest in new plant and equipment as they may be unsure of what the government will do in the future. People also may be uncertain and reluctant to spend. Both of these factors could reduce the long-term level of economic growth.
• Income redistribution - many people have to live off fixed incomes, particularly those on pensions. The higher the level of inflation the less their income will be worth. This effect can also happen among people who are working, as their incomes go up either faster or slower than inflation. These effects can arbitrarily redistribute income.
• Menu costs - this is a general term for all the inconvenient costs that businesses and individuals face. As prices increase they have to redo their price lists, change price labels, reprint menus and so on. If inflation is constant these costs can mount up.
• Competitiveness - if our prices are increasing faster than those in other countries, then our goods will be less competitive and less in demand. This will have a negative effect on the balance of payments.