2.4 Inflation Flashcards
What is inflation
It is the sustained rise in the general price level over time
What is deflation
It is where the average price level in the economy falls and there is a negative inflation rate
What is disinflation
It is the falling rate of inflation. Where the average price level is still rising but to a slower extent
What is hyperinflation
When the rate of inflation is high and accelerating to the extent that it is out of control
What is the macroeconomic policy objective if low inflation
In the Uk, target inflation is 2%, measure with CPI. This aims to provide price stability for firms and consumers and helps make decisions in the long run
What are real and nomial values
Real values have been adjusted for inflation
Nominal values have mot been adjusted for inflation
How do you calculate the inflation rate in the Uk
This is done using the Consumer Price Index (CPI). It measures household purchasing power with the Family Expenditure Survey. This survey is used to create a basket of goods. The goods are weighted according to how much income is spent on each item
What are the key points when answering an exam question on CPI
A survey is used
Weighted basket of goods
Measures average price changes of the goods
Updated anually
What are the limitations of CPI when measuring inflation
The basket of goods is only representative of the average household
Different demographics have different spending patterns
CPI is slow to respond to new goods and services
What is the retail price index (RPI)
It is an alternative measure of inflation. It also includes housing costs unlike CPI. It tends to have a higher value than CPI due to this inclusion. It has been used for longer than CPI so is better for comparison over time
How are index numbers used to calculate the rate of inflation
Index numbers are used to make comparisons between years, and to measure the magnitude of change over time. A base year is used and is then compared to other years
What are the three causes of inflation
Demand pull
Cost push
Growth of the money supply
Why is demand pull a cause of inflation
This is from the demand side of the economy. When AD is growing unsustainably, there is pressure on resources. Producers increase prices to earn more profits
What are the main triggers for demand pull inflation
A depreciation in the exchange rate
Lower taxes or more government spending
Lower interest rated
High growth in UK export markets
Why is cost push a cause of inflation
This is from the supply side of the economy, and occurs when firms face rising costs
When does cost push occur
Raw materials become more expensive
Labour becomes more expensive
Indirect taxes increase the cost of goods
Depreciation in the exchange rate
Why is growth of the money supply a cause of inflation
Extreme increases in the money supply usually causes hyperinflation
What are the consequences of inflation on consumers
Those on lower incomes are hit hardest because the cost of necessities become expensive
If consumers have loans the value of repayment will be lower because the amount owned doesn’t increase
What are the consequences of inflation on firms
Low interest rates mean borrowing and investing is more attractive
Workers mught demand higher wages which can increases costs
Firms may be less globally competitive if inflation is high
What are the consequences of inflation on the government
The government will have to increase the value of the state pension and welfare payments, because the cost of living is increasing
What are the consequences of inflation on workers
Real incomes fall with inflation, so workers have less disposable income
If firms face higher costs there could be more redundancies when firms cut costs
What are the two causes of deflation
A fall in aggregate demand
Increase in aggregate supply
How does a fall in AD cause deflation
Deflation is usually caused in recessions when output and demand are decreasing.
How does an increase in aggregate supply casue deflation
This lowers production costs for firms. Output increases at the same time, and this type of deflation is not normally considered as bad as if it caused by falling AD
