Inflation (L8)

Question 1

CPI

Answer 1

Consumer price index

Question 2

RPI

Answer 2

Retail prices index

Question 3

Compare CPI and RPI

Answer 3

RPI is usually higher as inflation is overstated, CPI is more accurate.
CPI excludes a number of items relating to housing that RPI includes.
CPI covers all income earners, RPI doesn’t.

Question 4

Groups that lose from investment

Answer 4

People who receive fixed incomes 
People who receive incomes that increase slower than rate of inflation
Holders of cash 
Savers
Lenders

Question 5

Purpose of CPI and RPI

Answer 5

Measures inflation, but somethings are more important than others when finding rise in price, eg tech as it’s always changing. It still includes stuff like cigarettes but the average household doesn’t spend on cigarettes but every household buys food, so it’s weighted to reflect that

Question 6

Why do holders of cash,savers and lenders lose out from inflation?

Answer 6

Purchasing power of any cash held falls
The value of saving falls, so interest rates must be the same as inflation to maintain its real value
The real value of the money you lend falls after inflation

Question 7

Groups who gain from inflation

Answer 7

Borrowers

Payers of fixed incomes/incomes that increase less rapidly than the rate of inflation

Question 8

Why do borrowers, payers of fixed incomes / ones that increase slower than rate of inflation gain from inflation?

Answer 8

Borrowers: money your paying back is worth less
Payers: real value of payments fall so they benefit

Question 9

Menu costs

Answer 9

Higher inflation= more firms change prices so higher menu costs

Question 10

Money illusion

Answer 10

People feel better when nominal income rises when they aren’t so spend more.

Question 11

International (export) competitiveness

Answer 11

Exports are more expensive to foreigners when price level increases, but goods are cheaper for domestic buyers.
Exports fall, imports rise

Question 12

Appropriate rate of inflation

Answer 12

2-3% so it’s not too close to deflation

Question 13

Demand pull inflation

Answer 13

When increased aggregate demand isn’t matched with increased aggregate supply

Question 14

Reasons for excessive increases in AD

Answer 14

Consumer spending increases if interest rates are low.
Consumer confidence rises with house price.
Firms increase spending on investment.
Government increases spending/ cuts taxes.
Boom in world economy means increase in demand for UK exports.
Increase in money supply.

Question 15

Cost push inflation

Answer 15

Rising costs cause a change in supply

Question 16

Reasons for cost increases (cost push inflation)

Answer 16

Increase in wages increases costs of production
Imports cause a rise in price
Profits increase when prices are raised.