What is inflation? Why prices rise, in plain words

Inflation is the rate at which the general level of prices rises over time, usually measured over a year. When inflation is 3%, a basket of goods that cost $100 last year costs about $103 now, so each dollar buys a little less. A single price going up isn't inflation; inflation is prices across the whole economy rising together.

In short

• Inflation is measured with price indexes such as the Consumer Price Index, which tracks what a typical household buys.
• It comes from three main sources: demand outrunning what the economy can supply, rising costs such as energy, and expectations that feed on themselves.
• Central banks, including the Federal Reserve, aim for about 2% a year and raise interest rates to bring inflation down.

How is inflation measured?

In the United States, the best-known measure is the Consumer Price Index, the CPI, published monthly by the Bureau of Labor Statistics. According to the BLS, it tracks the average change in prices paid by urban consumers, who make up over 90% of the population, using prices for about 80,000 items each month from stores, service providers, rental units and doctors' offices. Each item is weighted by how much households actually spend on it, so rent counts for far more than postage stamps.

The calculation is a comparison of the index over time. The CPI stood at 324.800 in September 2025 and 336.940 in September 2026. The rise is 12.14 points; divided by 324.800, that is 3.7%. That matches the BLS's September 2026 release, which reported all-items prices up 3.7% over 12 months, and 2.6% for core inflation, which leaves out food and energy because their prices jump around.

Other measures exist. The Federal Reserve prefers the price index for personal consumption expenditures, PCE, which covers a wider range of spending and updates its weights more quickly as people switch between products.

What causes inflation?

The IMF's explainer by Ceyda Oner sets out three main forces, with money behind them all.

Demand-pull inflation happens when people, businesses and governments try to buy more than the economy can produce. Low interest rates, a stock market boom or large government spending can all push demand up. With factories and workers already busy, sellers raise prices.

Cost-push inflation happens when the cost of making things rises: oil jumps, a drought ruins harvests, a port shuts. Businesses pass the higher costs on to customers.

Expectations turn a burst into a lasting rise. If workers expect prices to rise 5% next year, they ask for raises of 5%, and firms set prices to cover them, which makes the 5% come true. That is why central banks care so much about whether people believe they will keep inflation low.

Underneath all three is money. Over the long run, prices can keep rising only if the amount of money and credit grows faster than the goods and services it buys. In the extreme, when governments print money to pay their bills, the result is hyperinflation, as in Germany in 1923 or Zimbabwe in 2008.

What caused the inflation of 2021 to 2023?

The recent surge shows the causes working together. US inflation rose from about 2% before the pandemic to 9.1% in the 12 months to June 2022, the highest since 1981. In the euro area, inflation hit 10.6% in October 2022, according to Eurostat.

Several things happened at once. Pandemic shutdowns snarled supply chains, so goods such as cars and computer chips were scarce. People stuck at home shifted spending from services to goods. Government support payments and savings built up during lockdowns kept demand strong. Then Russia's invasion of Ukraine in February 2022 sent energy and food prices up sharply. Later, as the job market tightened, rising wages kept service prices climbing.

Still argued

Economists still argue about how much of the 2021–23 inflation came from too much demand, including government stimulus and low interest rates, and how much from supply shocks that no policy could have prevented. A 2023 study by Ben Bernanke and Olivier Blanchard for Brookings found that most of the rise in 2021 and 2022 came from shocks that raised prices directly, such as commodity prices and supply bottlenecks, with stimulus working mainly through demand for scarce goods, and tight labor markets mattering more later. Others put more weight on demand, arguing that stimulus and slow rate rises let inflation take hold. The answer shapes how central banks and governments should respond next time.

Why do central banks aim for 2% inflation?

Zero might sound ideal, but most central banks, including the Federal Reserve since 2012, aim for about 2% a year. The Fed's explanation is that low, stable inflation helps households and businesses make sound decisions about saving, borrowing and investing. Economists add that a little inflation gives a buffer: it makes falling prices, deflation, less likely, and it leaves room to cut interest rates in a downturn. Deflation can be damaging, because people delay purchases waiting for lower prices and debts grow heavier in real terms.

The difference between rates compounds over time, as the table shows.

Yearly inflation	What $100 buys after 10 years	Years for prices to double
2%	$82.03	35
3%	$74.41	23
3.7%	$69.54	19
9.1%	$41.86	8

At 3%, $100 in cash buys only $74.41 of today's goods after a decade. The rule of 70 gives a quick estimate: divide 70 by the inflation rate to get the years for prices to double.

How does raising interest rates bring inflation down?

The main tool is the short-term interest rate. When the Federal Reserve raises it, borrowing costs rise across the economy, from mortgages to business loans. People and companies borrow and spend less, saving becomes more rewarding, and demand cools. With less demand, firms find it harder to raise prices, and workers ask for smaller raises. The mechanics are set out in how interest rates work.

The cost is that cooling demand can also slow hiring and growth, and, if it goes too far, cause a recession. The effects take a year or more to show up fully, so central banks must act on forecasts, not just today's numbers. Between March 2022 and July 2023, the Fed raised its target range from near zero to 5.25–5.50%.

What does inflation mean for the reader?

Inflation is not felt evenly. It hurts people whose incomes don't keep up and savers holding cash. It helps borrowers with fixed-rate loans, whose debts shrink in real terms. A pay rise of 3% when prices rise 3.7% is a real pay cut. Comparing prices across countries, rather than across time, is the job of purchasing power parity. Inflation is one of the first numbers anyone learns in economics, and one of the most argued about. This note explains how it works; it isn't financial advice.

Check yourself

• Explain the difference between demand-pull and cost-push inflation with an example of each.
• Why can expectations make inflation last, even after its first cause has gone?
• Walk through how a rise in interest rates slows price increases, and what it can cost.

Sources

• Consumer Price Index: questions and answers — U.S. Bureau of Labor Statistics
• Consumer Price Index, September 2026 — U.S. Bureau of Labor Statistics, 2026
• Inflation: Prices on the Rise — Ceyda Oner, IMF Finance and Development, 2019
• Why does the Federal Reserve aim for inflation of 2 percent over the longer run? — Board of Governors of the Federal Reserve System, 2025
• Euro area annual inflation up to 10.6% — Eurostat, 2022
• What caused the US pandemic-era inflation? — Ben S. Bernanke and Olivier Blanchard, Brookings Institution, 2023