Inflation Flashcards
Retail prices index
Measure of inflation that JD used for adjusting pensions and other benefits to take account of changes in inhalation and frequently used in wage negotiations
RPIX is..
RPI minus mortgage interest payments
RPIY is…
RPIX minus indirect taxes
Difficulties of measuring inflation
Not a true reflection of price changes-
like for like products are not actually compared. For example, a television may increase in price but this is only to reflect the improvements in technology that it now contains
Overstates inflation-
The “basket of goods” does not allow for changes in people’s shopping habits within the year. If the price of a product increased consumers will stop purchasing it and find a cheaper alternative
Figures are only averages- nobody actually purchases everything in the basket and the weighting are only an average. A pensioner’s shopping will differ substantially to that of a young family and so some people will be worse off
Demand-pull inflation
Increases in the price level caused by a increases in aggregate demand
Cost-push inflation
Increases in the price level caused by increases in the costs of production
Costs of inflation
Menu costs Shoe-leather costs Inflationary noise Fiscal drag Fall in the value of money Random redistribution of income Uncertainty Inflation causing inflation Loss of international competitiveness
Fall in the value of money
A rise in price levels mean that the value of money falls.
People can’t buy as many goods with their money.
Their purchasing power has reduced
- living standards reduced
Menu cots
The costs of changing prices due to inflation
Constant changes in price levels mean that businesses, especially takeaways, have to continually change their prices.
This is costly both in time and money
Shoe leather costs
Costs in terms of the extra time and effort involved in reducing money holdings
Inflation means that people have to spend time searching for the best deals either in goods or in bank services.
This time is an economic cost
- opportunity cost
Inflationary Noise
The distortion of price signals caused by inflation
Reports in the media make people believe that prices have risen.
They are therefore prepared to spend more money on products when this may not have happened
Random redistribution of income
When there is inflation, skilled workers gain pay rises but minimum wage earners do not.
This is a huge problem for the Government who will be unable to adequately redistribute income from the rich to the poor
Fiscal drag
People’s incomes being dragged into higher tax brackets that are not adjusted for inflation
This occurs when people gain a pay rise that matches inflation to maintain spending power
BUT
This drags them into a higher tax bracket and makes them worse off
Uncertainty
Unanticipated inflation causes firms and consumers to lose confidence, leading to a fall in C and I, possibly negative economic growth
Inflation causing inflation
When people and firms hear that price levels may rise they stock up on products.
This leads to an increase in C, an increase in AD, leading to inflation
Loss of international competitiveness
Inflation causes price levels to rise, which means that UK products become more expensive for people abroad, thus the UK loses competitiveness
CPI- Consumer price index
A measure of changes in the price of a representative basket of consumer goods and services
Prices of a “basket of shopping” are collected and compared to a base year
The basket is updated every year to reflect the change in people’s spending habits and the categories are weighted to reflect the proportion spent on them
