2.2 - Signposting

Question 1

Benefits of Inflation

Answer 1

• Encourages firms to produce more output + consumer to buy right now, rather than delay purchasing
• Workers can receive increases in their pay (which boost morale + keeps consumption in economy strong)
• Inflation can provide flexibility for firms

Question 2

Costs of Inflation

Answer 2

• Purchasing power falls
• Menu costs
• Shoe leather costs
• Savings are eroded in value if the rate of interest is lower than the real value of inflation
• Anticipated inflation can create inflation spirals
• Reduced international competitiveness
• Fiscal Drag
• Inflationary Noise

Question 3

Evaluation of Whether Inflation is Good or Bad

Answer 3

• The cause - demand pull or cost push inflation
• The actual rate (the higher rate, the worse the consequences)
• The stability of the figure (fluctuations in inflation are not desirable)
• Anticipated vs Unanticipated inflation

Question 4

Deflation - Negative Consequences

Answer 4

• Delayed spending
• Real interest rates during periods of deflation are always positive
• Deflation will increase the real value of debt

Question 5

Deflation - Positive Consequences

Answer 5

• Deflation is not alwyas bad for an economy particularly if generated from the supply side

Question 6

Evaluation of Whether Deflation is Good or Bad

Answer 6

• The cause - demand side or supply side deflation?
• Anticipated vs Unanticipated Deflation