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What is Hyperinflation? How Does Hyperinflation Occur? Research Team | Posted On Saturday, September 21,2019, 08:18 PM

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What is Hyperinflation? How Does Hyperinflation Occur?



Hyperinflation is a case of devaluation of money. In the current scenario, the Venezuelan economy is suffering from hyperinflation. People are living in abject poverty due to the rise in prices of goods and an increase in unemployment. Former President Hugo Chavez had instituted price controls for food and medicine. The specified government prices so low it forced domestic companies to shut down their business. To counter this situation, the government paid for imports. In 2014, oil prices plummeted. It eroded the revenues of the government-owned oil companies. When the government ran out of money, it started printing cash to pay for the expenses. The failure of the government to exercise price and wage controls, resulted in the hyperinflation of the country to continue.

What is Hyperinflation?

Hyperinflation is an aftermath of continued inflation. It is caused when the prices of goods and services rise drastically at a high rate. The prices almost increase to 50% per month due to increase in demand and lack of supply. At such a rate, the cost of basic goods may cost one amount in the morning and may become higher by the evening.

Hyperinflation, if not controlled may lead to rapid and out-of-control price rise in the economy. It generally happens when a country is going through war or economic turmoil.

Causes of hyperinflation:

Hyperinflation is primarily triggered when a country’s government starts printing extra money and infusing them into the economy to pay for the expenditures. This leads to an increase in the money supply in the economy. As a result of it, the prices tend to rise and result in inflation in the economy.

Inflation leads to hyperinflation when the government completely fails to take proper measures.  The government prints more money instead of tightening the money supply. The increase in money cases the demand to outrun supply leading to an excessive rise in the prices of goods and services.

A continuation in inflation leads to hyperinflation when the prices of goods and services tend to rise by 50% per month. Once inflation is out of control, the common people buy more and more goods to avoid paying higher prices later. Excessive demand and low supply aggravate inflation.

See Also: What are the Different Types of Inflation?

Effects of hyperinflation:

Any economy suffering from hyperinflation loses the value of its currency. When the currency loses its value it affects the country’s foreign exchange market as the price of foreign goods and service rise with a rise in the money supply. Since the value of the currency fluctuates due to economic turmoil the holders of the local currency switches to a more stable foreign currency.

The value of local currency plummets in the foreign exchange thus significantly affecting the trade. The importers go out of business as the cost of foreign goods raises manifold. Domestic Companies stops operating due to price rise leading to an increase in unemployment. Since the local currency loses its value, bankers and lenders go bankrupt. People easily run out of cash due to price hike of goods and services.

Prolonged hyperinflation causes people to hoard food supplies thus leading to a shortage of food in the country. The government tax revenue falls and it struggles to provide or pay for the basic services. In such a situation, if the government prints more money to pay for its expenses then it worsens the situation.

How does hyperinflation occur?

Hyperinflation in the United States occurred when the government started printing an indiscriminate amount of money to pay for the civil war. On the other hand, hyperinflation in Venezuela was caused by price control issues. While Hyperinflation can be triggered due to several factors the two main reasons for hyperinflation are as follows:

Excessive money supply: hyperinflation occurs when the money supply in the economy increases drastically as compared to the value of the goods and services in the economy. When the rise in the money supply is not supported by the economic growth measured in terms of GDP then it can trigger hyperinflation. One of the major causes can be debt burden of a country. When the country’s debt burden is high and the revenue from taxes is not sufficient then it may decide to print more money. The prices of the goods do not rise at the same time. With surplus money for the same goods, the price rises drastically leading to hyperinflation. Generally, hyperinflation becomes significant when a country’s debt burden is more than 80% of the GDP.

Unsustainable fiscal policy: hyperinflation takes place when the government completely fails to take measures to control inflation. All government spending must be financed through taxation, borrowing or money creation. The Government often rely on taxation to finance most of their expenditures. Sometimes governments also choose to borrow money from banks to finances infrastructure and development like roads, buildings, hospitals etc. issuing money is an alternative way to maximize revenue. But it quickly results in inflation if it is not supported by economic growth. At such times the government must exercise control measures to bring inflation under control. But if the country is going through an economic turmoil like a civil war then the government keeps on injecting money in the economy to pay for its expenses thus leading to hyperinflation.

See Also: Inflation - its causes and effects on the economy

Hyperinflation examples:

Some of the countries that suffered hyperinflation are Germany, America and Zimbabwe.

Germany started printing excessive money to pay for World War I in the 1920s. The government also printed government bonds. This resulted in an increase in money supply in the economy as well as a rise in the government’s debt. At the end of the war, the inflation rate in Germany was 20.9% per day.

Zimbabwe suffered hyperinflation in between 2004 to 2009. The government started printing money to pay for the war expenses. The hyperinflation in Zimbabwe soared to 98% per day. Drought and farm confiscation worsened the situation leading to a shortage in food supply and locally produced goods. It finally came to an end when Zimbabwe changed its medium of exchange from Zimbabwean dollar to U.S dollar.

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