Purchasing power - What is purchasing power?

Purchasing power refers to the number of goods or services that a certain amount of money can buy at a given time.

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Purchasing power is an indicator of the current market condition because it allows a business or individual to discern how far their pound will go.

Because purchasing power can be measured by the quantity of a certain item or items that can be bought with a specific amount of money, it’s a simple and straightforward method that can be helpful in settings budgets.

Example of purchasing power

Purchasing power changes over time at different rates in different economies. An example of purchasing power in the UK is as follows:

  • In 1982, the average price for a loaf of sliced white bread was £0.37

  • In 2012, the average price for a loaf of sliced white bread was £1.24

While the difference might not seem that significant over a period of 30 years, it’s in fact an increase of 235%. Consumer purchasing power is most often measured in easily trackable, staple items such as milk and loaves of bread.

Fluctuations in purchasing power

The result of a decrease in purchasing power is known as inflation. This generally occurs over time with the increase in money supply produced by a nation for various reasons.

Hyperinflation occurs typically in situations of upheaval, such as occurred in Germany after World War I, when more money was printed in order to pay off debts and compensation to affected nations.

This led to the devaluation of the German mark, meaning that the purchasing power plummeted and the currency became less valuable.

Purchasing power in economics

This term also has a place in economics as it’s an important indicator of the economic condition of the nation, as well as impacts on consumer spending and investment decisions.

Investments are particularly impacted by fluctuations in purchasing power, as low-risk investments can result in a lower return on investment.

In the UK, the Consumer Prices Index (CPI) monitors and regularly releases reports on the state of inflation.