economic issue- inflation Flashcards
What is inflation?
Inflation is a sustained increase in the general level of prices in an economy over a period of time
How is headline inflation rate measured?
Measured using changes in the CPI
What does the CPI measure?
- percentage change in the price of a basket of goods and services, weighted according to their significance for the average household.
What are some categories included in the CPI?
Some categories included in the CPI are housing, food, clothing, transport, and health, reflecting household spending patterns.
How often is CPI measured?
Quarterly
How is the annual inflation rate calculated?
((CPI in Current Year - CPI in Previous Year) / CPI in Previous Year) x 100
What is the main limitation of using the headline inflation rate as an indicator of inflation?
It includes one-off and volatile price changes such as natural disasters or conflicts
What does the underlying inflation rate aim to measure?
aims to measure general price changes by removing the effects of one-off or volatile price movements.
How does underlying inflation account for extreme price movements?What are the two measures used to calculate underlying inflation?
Trimmed mean and weighted median to adjust CPI figures by excluding extreme price movements.
How is trimmed mean inflation calculated?
By averaging the inflation rate after excluding the 15% of items with the largest and smallest price changes from the CPI.
What does weighted median inflation identify?
the inflation rate of the item at the middle of the price changes in the CPI basket (the 50th percentile by weight).
How does the Reserve Bank of Australia estimate the underlying inflation rate?
By taking the average of the trimmed mean and weighted median measures.
What factor can have a larger impact on the headline inflation rate while affecting the underlying inflation rate to a lesser extent?
One-off events or dramatic price falls for specific goods.
What is an example of an event that had a larger impact on the headline inflation rate but a smaller impact on the underlying rate?
During the COVID-19 pandemic in 2020, government subsidies caused child care costs to drop to zero, significantly reducing the headline inflation rate but having a smaller impact on the underlying rate. or For example, in 2006 Tropical Cyclone Larry destroyed banana crops in Queensland. As a result of this significant reduction in supply, the price of bananas temporarily increased by 400 per cent.
What is demand-pull inflation?
When AD exceeds AS, leading to an increase in prices as consumers are willing to spend more on limited goods/services
What causes cost-push inflation?
- caused by an increase in the costs of factors of production.
- firms will pass off these costs onto consumers leading to increase prices
- Some major sources include wages increasing faster than productivity growth and the rise in prices of imported raw materials.
How do inflationary expectations contribute to inflation?
- consumer behavior, wage negotiations, and business decisions
- consumers anticipate higher future prices, they may bring forward their purchases = increased demand and demand-pull inflation.
- Anticipated inflation can also affect wage negotiations, with employees demanding higher wage increases to offset expected price increases, contributing to cost-push inflation.
- Additionally, firms may raise prices in response to expected demand growth, maximizing profits and causing inflationary pressures.
What is the primary objective of the Reserve Bank of Australia (RBA) regarding inflation?
- maintain price stability and support economic growth
- by sustaining inflation levels at a target of 2-3%
How does the RBA use monetary policy to maintain price stability in the economy?
setting the cash rate= any increases in the cash rate will increase interest rates set by banks which can reduce consumption and investment- dampens economic activity
Why is low and stable inflation considered important for sustainable economic growth?
- consumers are able to make informed decisions that can increase AD= ^ economic growth
- International Competitiveness:
- unemployment levels are low
- purchasing power (able to spend)
