Which of the following may be a benefit of inflation?

• A. It eliminates menu costs and uncertainty about future prices.
• B. It increases the purchasing power of people living on fixed nominal incomes.
• C. It makes the real return on holding cash higher over time.
• D. It reduces the real burden of fixed-rate debt for borrowers if wages and prices rise.

Answer: (D)

Verified step by step guidance

1. Step 1: Understand what inflation means — it is the general increase in prices over time, which affects purchasing power, costs, and debts in the economy.
2. Step 2: Analyze each option by considering how inflation impacts economic variables such as menu costs, purchasing power, real returns on cash, and debt burdens.
3. Step 3: Recognize that inflation does not eliminate menu costs or uncertainty about future prices; in fact, it often increases them because prices change more frequently.
4. Step 4: Understand that inflation decreases the purchasing power of people on fixed nominal incomes, as their income does not increase with rising prices.
5. Step 5: Realize that inflation reduces the real burden of fixed-rate debt for borrowers because as wages and prices rise, the fixed nominal debt becomes easier to repay in real terms.