cost and benefits of inflation Flashcards
what are the 6 costs of inflation
lower purchasing power
erosion of savings - shoe leather costs
lower export competitiveness
wage/consumer price spirals - menu costs
fiscal drag
inflationary noise
what are the 6 benefits of inflatino (if low and stable)
wokrers can bargain for higher wages
consumption is natural
firms are encouraged to increase output
can keep unemployent low in a recession
reduces real value of debt
imporvemtn of gov finance
explain lower purchasing power
for hh and workers
assumign wages and incoem s not increasing in line with inflation
in rela terms workers worse off
this can affect ability to buy basic goods and sercice
can affect sol
for those on low incomes can drive em into poverty and deprivation
explain erosion of savings
assuming the interet rate is not in line with tinflation
if ir is less than inflation in real terms saving is loosing value
bad for thosee relying on savings suhc as unemployent , economically inacrive , old age pensioners
this can decrease DOL
those saving to buy house - means its harder to reach financial goals
explain low export competitiveness
if interst rate icease in a country faster rekative to others
exports decrease demand this decreases export rev (LOD)
worsens current accoun position
decreases x -m
lowers AD
lowers econ growth
who is low export growht especially bad for
cunch who are trade dominant and rely on exports for ecnomic growth
exports are more conc in africa which is a developing econ
explain wage spiral
occurs when risk of increasing inflation becomes anticipated then spirallig potentially creating hyper inflation
leads to moreinflation , workers anticipate inflation then bargain for higer wages because they wana keep up with the cost of libing
ask for at least inflation equalling pay rise
if firms fo this they increase COP, pass this on thorugh higher prices
this increases inflation
means worekrs ask for ahigher pay rise
leads to inflatino sprial
- can this be heightened by trade unions andpeople all comign together asking for higher pay rise
explain consumer spiral
if consuemrs anticipating high inflation rational thing to do
bring forward consumtion, even if dont needs goods rn
dont wait as 3 will be hgher
rational consumers protect themselves from what they think will eb higher infaltion
if all consumers act rationally and bring forward consumption
this increases AD and DPI
EXPLAIN menu costs nd high inflation
inflation is high and rising firms continue to print new menu prices and catalogues
to keep updaitng = costly
pass onto cosnuemrs via higher prices
leads to inflation
f we end up with hyperinflatino hwats a nice link we can make
it can ruin eocn and intensify other costs of inflation
explain fiscal drag cost
inflation rising means workers recieiving hihger incomes
but only in line with inflation
in real terms not better ooff as pay just rising in line with col
but if pay rises means in a progressive tax system theyre worse off as get dragged into hgier tax bands
they pay more tax whihc increases SOL
Why is a fiscla drag good for the gov
they recieve a tax rev windfall
describe what type of cost fiscal drag is
subtle unrealised cot of inflation
how do we evaluate fiscal drag
we make assumtion of progressive tax systme being used - not case in lithuania
assume tax bands arent rising in line with inflation
explain inflationary noise
when IR is volatile
price signalling funcitno of mkt completley looses its value and significance
so with volatile inflation people start to loose understndding of whats happenig w price
this creates uncertianty in econn
casuog consmers to put off C
firms to put off I plans
this can hold back eocn growht as AD shift left as cmoponent vlaues reduce
explain workers can bargain with ghier wages beenfit
even if all they get is inflation = pay rise
dont matter
workere liek hgiher wages
its good for moral and productivity
an shift LRAS right as quality of labour has increased
increases ouptut increases econ growh
explain consumtion is natural benefit of inflation
with a low and stable inflatino rate
consuemr wont bring forward or delay soednng
which is the case why high inflaiton and defation - non are anticipated
they buy g/s when they need to
consumption is fluid whihc is good for econ groht as wont get shocks which can plunge econ into a recessio
explain firms encourage dto increase otuptu
if low an dstavle
firms know they can icnrease prices and earn more revenue so chance to make more ouotu and sell at a higher price and earn mroe
expain low and stable inflationc an keep unmployment mlow ina recession
ina recessionnormal for firms to sack workes as rev is falling so good way to keep costs under control
and decent profit margins
firms dont want to do this as hard to have skilleed productive wokers + all traing that been put in n , if get rid of them , hard to get them back again
so if some inflaiton frims can keep workers
CAUSE FIRMS CAN ICNREASE COSTS BY INFLAITON BUT ONLY INCREASE incomes by by 1% - still increaseing rev
this means they can still keep workers in place
goood for firm as keep productive wf/ decent prof margins
good for wokers as keep work in a rcession
good news for gov as key macro obj of unemp dont get out of ctrl
explain +ve of inflaiton reduces real value of debt
workers can bargainfor higher wages during low and stable inflarion so have more income
forms can mke more profits when higher inflation
so wages, profit and rev tend to rise so easier to service debt
debt is fixed vlaue so easier to service - which is +Ve - why
explain +ve of improvemen of gov finances
get fiscal winfall when inflation
as wokrers earning more
meaning dragged into highe rtax bands so gov beenfts
+ taxes absed on nominal value of g/s e.g vat as prices rise gov collects more rev e.g fuel duyt
+ gov is not spending as much on public services in rela terms there is a fall in funding publi services i real terms as a fall in public sector wages
this decreases the real value of their national debt
explain +ve of firms encouraged to increas otput
if low and stable they now they can increae £ and earn more revevnue do chnce to make mroe ouputu and sell at a highe rprice so they earn more
wha are the 5 evaluation pints
rate
cause
duration
anticipate/unancticipated
stablity of rate of infaltion
explain eval point rate of inflation
fi its low and stable = mor benefits than csts
higher rate of inflation = costs are significant and we have the risk of spirals
