3.4 Price Stability

Question 1

What is the definition of inflation?

Answer 1

The sustained increase in average price level in an economy over a given period of time

Question 2

What is deflation

Answer 2

The sustained decrease in average price level of an economy over a given period of time

Question 3

What is hyperinflation

Answer 3

Inflation at rate of over 50% a month (13,000% annually)

Question 4

What is disinflation?

Answer 4

A decrease in the level of inflation, but the rate of inflation is still positive

Question 5

How do you measure inflation?

Answer 5

• Inflation is measured using the CPI, which measures the price of an average ‘basket’
• The basket is updated annually and prices are recorded every month, as this will show the rate of inflation
• when something has been adjusted for inflation it is a ‘real’ figure

Question 6

What is demand-pull inflation?

Answer 6

• This is where due to fiscal or monetary policy AS and AD increase and oustrips the productive capacity of the economy
• This means the output of the economy will not rise however spending has increased so the average price level will rise as more money is chasing fewer goods leading to inflation

Question 7

What is cost-push inflation?

Answer 7

• this is where the cost of one of the factors of production increases, meaning that the price of a good increases, which affects the general price level in an economy as firms pass the costs onto the consumer and raise the price

Question 8

Benefits of Inflation (all economic groups)

Answer 8

• decreased value of loans, meaning real value of borrowing has gone down, value of real debt decreases
• PRODUCERS, less wage costs as inflation will negate nominal wage rises

Question 9

Costs of inflation: Consumers

Answer 9

• Loss of consumer confidence as consumers are unsure how much money will be worth (purchasing power) in the future
• Fall in real income and standard of living, as the purchasing power of the wages decrease so standard of living decreases
• increased unemployment as uncertainty leads to a decrease in aggregate demand so less workers are needed
• Debtors gain during inflation while creditors lose as real value of loans decreases
• Consumer Price spiral, as inflation is high, people will expect prices to rise which means they will spend increasing inflation, increasing velocity of money

Question 10

Costs of inflation: Producers

Answer 10

• Debtors gain during inflation while creditors lose as real value of loans decreases
• Loss of business confidence, reduced level of investment due to uncertainty
• Higher prices in UK means that producers in the UK are far less competitive in an international market
• Menu Costs - keep changing costs
• Shoe Leather costs - shopping around

Question 11

Inflation Effects: Governments?

Answer 11

• Public Sector and Benefit payments will rise as real value of money has fallen, however depending on the rate at which they rise, the Government will either spend more or less
• real value of debt decreased

Question 12

How can inflation be evaluated?

Answer 12

1. The size or rate of the inflation - a lower or more stable rate is preferred
2. The duration of the inflation
3. The Government response to inflation
4. Cause of the inflation
5. Type of inflation - demand pull is preferred as cost push may lead to stagflation