To put this into very simple terms for those out of the loop, you would be surprised how many people I have explained this principle too in the last week, inflation is a reduction in the value of your paper currency. The £1 coin in your pocket buys fewer 1p sweets in the shop.
Whilst prices varying against a currency is very common place, it is usual for all sorts of commodities to shift up and down in price over the course of single a day, price increases across a range of goods (country wide for example) is considered an unusual occurrence, which we call inflation. The most obvious and usually correctly identified culprit of inflation is the Bank of England (or Federal Reserve in the USA) increasing the supply of money, basic economics 101 rule of supply & demand dictates that if supply increases then price (value) falls.
So why does the government start up the presses and cause our money to become worth less (worthless eventually, see Zimbabwe)? Well they could use the money themselves to pay for services or plug spending holes, offer business' incentives/subsidies to "stimulate the economy" or even use it to "balance the books" (although pretty much everyone would notice that little trick!). But I don't believe these are the reasons for the current level of inflation, at first I thought this was just another bout of government incompetence and failed Keynesian stimuli, but there is a much more cynical issue underneath, national debt.
Yes printing money does seem like a nice way solve our countries debt problem, but we can't simply add extra notes to the money supply and 'hey presto' use that to pay off our debt. For example, if we owe China £5 we could simply print the money and give it to them but that would be a pretty obvious cheat, ruining our reputation & future borrowing prospects. Instead our government is a little bit more sneaky, issuing bonds (receiving loans) in exchange for a guaranteed payout a few years later, during this time they increase the money supply meaning that they can tax more £s to pay back the creditors at the end of the bond.
So what really happens is China lends us £5 in 2010 in exchange for £10 in 2015, then we slowly print off more money so that we have enough to pay them back, rather than actually increase productivity sufficiently to pay back the £10 at the original current valuation. Essentially the creditor gets ripped off, as that £10 in 2015 does not buy the same number of sweets as £10 would have in 2010, but as an added bonus our money is also devalued for our own use and our £s now buy less sweets for us too.
This is the sort of crisis looming over us here in the United Kingdom and probably more so in the United States, not only is our currency being devalued but it seems pretty obvious that the creditors are going to catch on, if they haven't already. When they do they will try to sell the debt onto someone else (exchange the debts in £s for another, not so devalued, currency). But when other nations won't buy the debt we will have an even larger devaluation in our currency as demand falls whilst supply simultaneously increases. This gets very complicated with exchange rates, imports & exports etc, but essentially no-one will want our money due to the rip-off debt, fears about valuation & returns on investments, the result; even more poverty for the taxpayer.
A pretty gloomy prospect.
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