Question

Explain how hyperinflation might lead to a severe decline in total output.

Short answer

Due to hyperinflation, producers anticipate more and more hikes in price level and prefer to hoard the finished goods and raw materials for the prices to increase. Therefore, the supply chain is disrupted, and total output is hit hard.

Step-by-step solution

Meaning of hyperinflation

Hyperinflation occurs when the general price level in an economy rises very rapidly, and the inflation rate goes out of control.The inflation rate, generally recommended being 2-3% per year, exceeds 50% per month in times of hyperinflation.

Hyperinflation is a rare situation. It generally occurs in war times or due to the excessive printing of currency by the federal bank.

Effect of hyperinflation on total output

In times of hyperinflation, the producers expect the prices of their products to rise far above the present level. So, the producers tend to wait and stock the finished goods as well as the raw materials.

Producers do not have an exact idea how far the prices will go. So, they keep waiting for a long time to raise the prices. In the meantime, the production comes to a halt, and the supply chain breaks. Therefore, the total output declines significantly.