You’ve probably heard that inflation in the US has reached rates it hasn’t seen in decades. On top of that, you’ve probably noticed that your dollar doesn’t seem to go as far as it used to while shopping at the grocery store or online.
Inflation is about more than just consumer prices going up, though. And this certainly isn’t the first time that Americans have gone through an inflationary period.
What does the history of the US look like when you focus on the topic of inflation and deflation? What can we learn about the current economic situation from the history of the country?
Let’s take a look at what you need to know.
What Is Inflation?
Inflation occurs when a given currency loses purchasing power over time. In order to estimate the rate at which a currency is losing purchasing power, one can look at the average price level of a group of selected goods and how it has increased over a certain time period.
The opposite of inflation is deflation. This is when a certain currency increases in purchasing power. That also means that prices decrease.
Inflation basically tries to measure the way that price changes are impacting people in an overall way.
When there is inflation, the currency loses value. This means that prices go up and people can buy less services and goods with the same amount of money in a recent time period.
Inflation in the US: A Brief History
There are four phases of the business cycle. These are the expansion phase, the peak, the contraction phase, and the trough.
This first phase, the expansion phase, is when there is positive economic growth. However, an asset bubble can be created when the economy expands beyond 3% rate of growth. What this means is that an asset’s market value increases faster that the underlying real value of the asset.
The peak is when a contraction begins and expansion ends. Basically, a decline begins as the market starts to resist prices going any higher and a negative growth rate begins. A recession can result from this if it goes on long enough.
Deflation can offer during a recession as both goods and services decrease. At a certain point, the economy will reach its lowest point in the cycle. This is the fourth phase, known as the trough.
Finally, economic expansion begins again after a period of contraction. The Fed will use monetary policy during recessions and thoughts to control deflation, inflation, and disinflation.
Early History and Inflation
For the first hundred or so years of the United States, wartime periods were always paired with high inflation. Up until 1914, the United States operated as a classical Gold Standard regime, meaning that the value of a dollar was tied to gold. The U.S. went off the Gold Standard during the Civil War and WWI in order to finance the war through printing money.
This triggered episodes of inflation. In 1918, prices rose more than 20%.
The government then returned to a modified Gold Standard, however. This led to a period where prices stabilized and deflationary periods occurred.
The Great Depression and the Move to Bretton Woods
The most dramatic period of deflation the U.S. has ever seen was during the Great Depression. After the financial sector collapsed and banks failed, prices precipitously dropped and output dramatically decreased.
The United States completely abandoned the Gold Standard in 1933. In 1944, the Bretton Woods Agreement made it so the global reserve currency switched from the sterling pound to the dollar, among other major global currency decisions.
It became an increasing concern in the early 1970s whether gold could cover the supply of circulating U.S. dollars. Military expenses, foreign aid, and other purposes had led to a surplus of money supply. The Bretton Wood Agreement was abandoned by Nixon in 1971.
Inflation soared past 12% due to the oil shocks of 1983 and 1974.
The Volcker Era
In 1979, when inflation had reached 13%, a new Federal Reserve Chair was sworn in named Paul Volcker. He introduced major changes to help battle the inflation occurring. He managed inflation through controlling the money supply rather than through interest rates.
Interest rates then increased because of the limited money supply. In 180, interest rates were 20%. However, inflation rates dropped in 1983 following the recession of 1982.
Since these measures were put in place, inflation levels have been pretty stable. That is, until now.
The Great Recession
The Great Recession that occurred from December 2007 to June 2009 was the most recent deflationary period in U.S. history. Commodity prices during this time dropped and there was a lot of concern that there would be a more prolonged recession. However, the deflation that happened actually wasn’t as severe as it had been predicted.
To learn more about the global financial crises during the 90s and the late 2000s, check out this article about Peter Isard, George Akerlof, and Robert Shiller.
The Historic Fluctuation of Prices
There have been at least four distinct time periods in the history of the US when high inflation has occurred. The highest levels of inflation in the United States, according to some estimates, occurred in the 1910s. During this time, the annual rate of inflation was nearly 8%.
Inflation in the US: Knowledge Is Power
When you start learning about inflation, it can be a bit overwhelming. You find yourself weeding through acronyms like CPI and trying to understand a variety of inflation metrics. However, sometimes it can be good to zoom out and look at how inflation and deflation have impacted our economy in the last few hundred years.
Did you find this article about inflation in the US helpful? If so, be sure to check out the rest of our blog for more informative and educational articles!