Inflation

Question 1

What is it inflation?

Answer 1

The percentage rate of change in the price level

Question 2

Costs of inflation

Answer 2

Costs of inflation
* Nominal contract
- Wages respond slowly to rising commodity prices
-Income Tax brackets revised with a lag
-Nominal interest rates are taxed: (1-tax)
Resi unstest rate= i(1-tax) - inflation
*Transaction cost
coins lose purchasing power
more trips to the bank
Time lost in managing finances

Question 3

Different terms (haven’t seen in any exam or anything like that)

Answer 3

• Menu costs
• Transactions costs associated with changing prices
• Relative price issues
  Some prices respond more quickly than others
  Redistribution of income across individuals
• Difficulty in writing nominal contracts
• Nominal illusion
• People mistake nominal and real changes
• Negative effect on long-run growth
  -R&D activities are cash constrained, and higher long-run inflation and nominal interest rates render them relatively more expensive. This reduces R&D and growth as proved by Chu and Cozzi, «R&D and Economic Growth in a Cash-

Question 4

Costs of deflation

Answer 4

• Price uncertainty - if unexpected
• High real interest rate
  -Nominal interest rates usually do not become negative to offset deflation (“zero lower bound”)
  -Aggregate drop in consumption and investment
• Real burden of debt
  -Nominal debts larger and larger multiple of marshmal
  Redistribution from borrowers to savers
• Negative effect on spending

Question 5

Quantity theory

Answer 5

recuerda la formula

Question 6

The Philips curve

Answer 6

The Phillips curve is named after the English statistician and economist William Phillips.
It describes a negative empirical correlation between
* wage changes (or price level changes) and unemployment rate
“sinflation -> lover real waps-> more ampligat
Why does this empirical correlation emerge?
Idea:
How do companies react to additional demand?
* Overtime, more staff, subcontracting, raising prices
* At high capacity utilization: primarily increase prices
Is not erough production copacity
In a boom phase (low unemployment), wages tend to rise more strongly due to a better negotiating basis for workers.
* With higher wages the demand increases
* Companies pass on the increased wage costs in the form of higher prices

Question 7

Derivation and interpretation

Answer 7

Formula
recuerdala, pag 116 glemser
interpretation:
The equation describes a Phillips curve:
for given values for expected pi, urara and a adecrease in the unemployment rate u leads to an increase in inflation.
The Phillips curve shitts upwards when:
* a higher inflation expected (I° 1)
* the markup goes up (u rara)
* factors leading to higher wage demands are increasing (z sube)

Inflation expectations
Is the inflation rate at a level pi, then rational individuals expect inflation pi for next year
In this case, low unemployment leads to high inflation (provided that u and # remain unchanged). - › see previous slide
seems that there is a trade-off between inflation and unemployment.

Question 8

Collapse of the Philips curve

Answer 8

Stagflation (= stagnation & inflation) in the 1970s; the empirical correlation between inflation and unemplovment collapses.
In the medium run, however, workers recognize that the inflation rate is not stable and adjust their expectations (§).
the Phillips curve is moving up.

Question 9

NAIRU

Answer 9

mucha formula, look 117 glemser

Question 10

Fisher equation

Answer 10

The nominal interest rate in the current period t is the sum of the real interest rate and the expected inflation rate for the next period.
formulas in mind*

Question 11

IS-LM with real interest rate (r instead of i)

Answer 11

ahora es r en vez de i en la is curve y añadimos la x de risk premium ( to compensate for risk and inflation)
en lm curve es r en vez de i