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You regularly see stories about hyper-inflated economies. The common feature is that as prices spiral out of control, stores continually raise their prices to match the level of inflation, leading to insane costs for basic items and with note-values being increased to match prices.

Let's say that I'm running a cake stall. How do I know that I need to be charging 100 trillion fakedollars per cake rather than 200 trillion? Where do normal vendors get that kind of in-depth market info?

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  • $\begingroup$ Your penultimate sentence describes a serious trend of hyper-deflation, rather than hyper-inflation. $\endgroup$ – Alecos Papadopoulos Aug 28 '15 at 2:54
  • $\begingroup$ @AlecosPapadopoulos - OK. So how do the vendors know how much to hyper-deflate their prices? $\endgroup$ – Richard Aug 28 '15 at 17:20
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It's anecdote, but in this fantastic Planet Money piece on breaking Brazil's hyperinflation, there's a pretty good description of how in Brazil, shopkeepers would raise their prices multiple times a day. The strategies described (starting around the 10:00 mark, after the description of people running ahead of the guys with the price guns to buy things before they could raise the prices) include:

  1. Assuming that inflation will run at some constant rate
  2. Running around checking competitors' prices
  3. Using the exchange rate against the US Dollar as a benchmark
  4. Pooling information and colluding with competitors, agreeing to all raise prices by the same fixed amount each day.
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  • $\begingroup$ (+1) I like step four. It's what can decisively remove (at the micro-level) uncertainty. $\endgroup$ – Alecos Papadopoulos Aug 29 '15 at 1:37
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How do normal vendors know at what level to set their selling prices when times are normal? They look around to see what competitors do, look at their costs, and engage in a trial-and-error process. Where it all starts? We don't know that for the normal times, how are we supposed to know it for the abnormal ones?

What is different in hyperinflationary times? That a wrong "guess" can have devastating consequences. So vendors intensify their information gathering search, they change prices daily or even, more than one times during the same day, and also (I would venture), in order to guard against the devastating consequences, they tend to set their prices even higher than what a "rational" processing of information would suggest (since they know they face great Knightian uncertainty rather than merely "risk"), fueling hyperinflation even more...

...and then, many of them still get it "wrong", and suffer huge losses as a consequence.

PS: I cannot resist the temptation to link to the fascinating paper by T.J. Sargent "The Ends of Four Big Inflations" (1982), (freely downloadable here). It is only very indirectly relevant to what the OP asks, in that it provides ample data that show how fast inflation rose in the four countries examined (Austria, Hungary, Poland, Germany), during their hyperinflation incidents, and so gives a feeling of what where the time constraints under which vendors had to decide on pricing... but it is relevant to the general subject of hyperinflation of course.

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  • $\begingroup$ What confuses me is how they end up with these insane prices. When ordinary citizens are baffled by the inflation, what special information/feedback do vendors get that allows them to pick the right price? What stops someone with a trillion fakedollar bill buying an entire company for the cost of a loaf of bread down the street? $\endgroup$ – Richard Aug 28 '15 at 17:59
  • $\begingroup$ @Richard You are making the assumption that vendors pick the right price. Who says they do? $\endgroup$ – Alecos Papadopoulos Aug 28 '15 at 18:25
  • $\begingroup$ Clearly there must be some rationale or else every vendor in the country would become immensely rich or instantly bankrupt. $\endgroup$ – Richard Aug 28 '15 at 18:28
  • $\begingroup$ @Richard Chance alone and the fact that we are talking about very many economic entities, guarantee that all will try rationally to pick the right price and the outcomes will have a distribution not concentrated at the extremes. That it is much harder and much more uncertain to set prices in hyperinflationary times, it is true. But this does not bring along its own remedy, no "special" source of "correct" information emerges together with hyperinflation. -it's just people trying much much harder and much more cautiously to do what they do also in normal times (price setting I mean). $\endgroup$ – Alecos Papadopoulos Aug 28 '15 at 18:44

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