Inflation - Unit 2 Flashcards
What is inflation?
The rate of increase in the average price level (deflation - fall in price levels)
What is hyper inflation?
A very high rate of inflation - with a danger of money becoming worthless
How is inflation calculated?
Through the consumer price index (CPI) which measures the average price changes of a typical basket of goods and services of an average family.
Costs of high or variable inflation include:
reduced international competitiveness, less predictable for investment, harder wage negotiations (wage - price spiral), unfixed menu costs, value of a fixed income is reduced and a response from the government may be a rise in interest rates.
Costs of deflation include:
- Delays in expenditure as prices may fall further
- Fall in AD due to fall in employment
- Debts become larger in real terms
What is the aimed rate of inflation in the UK?
2 plus or minus one
Demand pull -
high level of demand in the economy but insufficient capacity to raise output - usually occurs during a boom (outward shift in demand)
Cost push inflation -
Occurs when prices increase - costs of imports rise - costs of labour rise - taxes increase - prices rise to maintain profit (inward shift in AS)
Demand side solutions:
Cut Aggregate Demand - increased income tax, increased interest rates, reduce government spending
The problem with the inflation demand side solution:
GDP falls, unemployment rises
Supply side solution:
Raise AS - cut corporation tax, cut VAT, encourage competition, increase training.
Problems with the supply side solution:
Takes time and may cost a sufficient amount
Best policy for high inflation and low unemployment
Demand side
Best policy for high inflation and high unemployment
Supply side policy
