Editing Inflation (section)

=== General effect ===
[[File:Restaurant increasing prices by $1.00 due to inflation.jpg|thumb|upright=1.2|Restaurant increasing prices by $1.00 due to inflation]]

Inflation is the decrease in the purchasing power of a currency. That is, when the general level of prices rise, each monetary unit can buy fewer goods and services in aggregate. The effect of inflation differs on different sectors of the economy, with some sectors being adversely affected while others benefitting. For example, with inflation, those segments in society which own physical assets, such as property, stock etc., benefit from the price/value of their holdings going up, when those who seek to acquire them will need to pay more for them. Their ability to do so will depend on the degree to which their income is fixed. For example, increases in payments to workers and pensioners often lag behind inflation, and for some people income is fixed. Also, individuals or institutions with cash assets will experience a decline in the purchasing power of the cash. Increases in the price level (inflation) erode the real value of money (the functional currency) and other items with an underlying monetary nature.

Debtors who have debts with a fixed nominal rate of interest will see a reduction in the "real" interest rate as the inflation rate rises. The real interest on a loan is the nominal rate minus the inflation rate. The formula ''R = N-I'' approximates the correct answer as long as both the nominal interest rate and the inflation rate are small. The correct equation is ''r = n/i'' where ''r'', ''n'' and ''i'' are expressed as [[ratio]]s (e.g. 1.2 for +20%, 0.8 for −20%). As an example, when the inflation rate is 3%, a loan with a nominal interest rate of 5% would have a real interest rate of approximately 2% (in fact, it's 1.94%). Any unexpected increase in the inflation rate would decrease the real interest rate. Banks and other lenders adjust for this inflation risk either by including an inflation risk premium to fixed interest rate loans or lending at an adjustable rate.