Difficulty level affects game play in several ways:
Effect of Difficulty on Humans
The most important is that badboy wars only occur on very hard difficulty.
The amount of money in the treasury at the outset of a scenario is decreased with the difficulty level.
Base costs for manufactories increase 50d with each higher difficulty level.
Losing badboy is faster at the lower difficulty levels.
Effect of Difficulty on AI countries
There is a fundamental division for the AI effects, between easy and very easy on one hand, and on the other hand, normal, hard, and very hard settings.
Normal, Hard, Very Hard AIs
On normal to very hard settings, the AI gets all income from all of its provinces at all times. Unlike a human, the AI gets income from looted, besieged, and uncontrolled provinces.
There is an income multiplier for one-province minors that depends on the difficulty level. A one-province minor gets four to six times income at normal difficulty, six to eight times income at hard difficulty, or eight to ten times income at very hard difficulty.
Difficulty level affects at what maximum percentage the AI may mint. The AI can mint more at higher difficulties (normal, hard, and very hard).
AI inflation is capped depending on how many years of play have passed and the difficulty level. At normal difficulty level, AI inflation may be at most 0.25% per year of play passed (a cap of 25% inflation after 100 years). At hard difficulty level, AI inflation may be at most 0.20% per year of play passed (a cap of 20% inflation after 100 years). At very hard difficulty, AI inflation may be at most 0.10% per year of play passed (a cap of 10% inflation after 100 years). Except for the inflation cap, AI inflation is otherwise the same as a human player's inflation.
Easy and Very Easy AIs
At easy and very easy, the AI gets only the income it would normally get as a human player. The AI gets no tax income and gets reduced production income for looted provinces. The AI gets no income from besieged or uncontrolled provinces except that merchant tax from CoTs is only lost for uncontrolled CoTs.
There is no income multiplier for one-province minors.
The AI can mint all of its income.
AI inflation is not capped. AI inflation may skyrocket during war time. During peace, the AI receives a negative inflation cheat that eventually reduces inflation to within 3% of a human player's inflation level.