Macro 7 - Inflation

Question 1

Inflation definition

Answer 1

Sustained increase in the average price level across the economy

Question 2

What are sustained periods of extremely high inflation?

Answer 2

Hyperinflation

Question 3

What is deflation?

Answer 3

Sustained decrease in the average price level across an economy

Question 4

Why is low and stable inflation an important macroeconomic objective?

Answer 4

Limit high prices for Firms and Households
Limit income inequality

Question 5

What is the UK government’s target inflation rate?

Answer 5

2% CPI

Question 6

Why is the inflation target not 0?

Answer 6

Because inflation indicates economic growth

Question 7

Why is deflation sometimes perceived as bad for an economy?

Answer 7

Could be an indication that the economy is slowing

Deflation leads to people waiting for prices to fall more, which leads to lower spending and low growth, which results in a deflationary cycle

Question 8

Disinflation definition?

Answer 8

Decrease in the rate of inflation

Question 9

Is -0.5% inflation rate disinflation or deflation?

Answer 9

Deflation

Question 10

When measuring inflation, why do economists use index numbers?

Answer 10

Because they are easier to analyse

Question 11

When measuring inflation, how are index numbers calculated?

Answer 11

A base period must be assigned to which the rest of the data will be compared. The base year is assigned a value of 100

Question 12

When measuring inflation, after assigning a base year with a value of 100, how is the remaining data expressed?

Answer 12

(New value ÷ Base year value) x 100

Question 13

How are measures of inflation calculated?

Answer 13

Using a basket of goods, where each good is given a weighting depending on the proportion of income it takes up.

Question 14

Why does the changing of weights of goods happen in the CPI basket of goods?

Answer 14

Changes in weights reflect shifts in the spending patterns of households in the UK economy.

Question 15

How is inflation measured in the UK?

Answer 15

Through the Consumer price index (CPI)

Question 16

Why did the UK Government change the Inflation measurement to CPI?

Answer 16

To join the Harmonised Index of Consumer Prices (HICP) to make it easier to compare inflation levels with other countries

Question 17

What are the steps to organise the basket of goods used to measure inflation?

Answer 17

1. The top 650 goods and services consumed in the UK are chosen
2. Each good is assigned a weight depending on the proportion of income they take up

Question 18

What is the formula to calculate the rate of inflation using index numbers?

Answer 18

((New price level - Old price level) / Old price level ) x 100

Question 19

For example, if prices on average in the economy were 5.70 GBP in 2014 and rose to 6 GBP in 2015, then the index formula to calculate inflation can be used:

Answer 19

6/5.7 x 100 = 105.3

= 5.3% Inflation rate

Question 20

The price index for 2016 is 105, and the price index for 2017 is 110, how is the rate of inflation calculated?

Answer 20

(110 - 105 / 105 ) x 100 = 4.8%

Question 21

What are the 2 ways of measuring inflation?

Answer 21

Retail price index (RPI)
Consumer price index (CPI)

Question 22

What does CPI exclude from it’s data?

Answer 22

mortgage interest payments, rent and council tax

Question 23

Does interest rates affect RPI?

Answer 23

Yes, because it includes mortgage interest payments

Question 24

What households does RPI exclude?

Answer 24

highest income households

Question 25

What are the advantages of excluding mortgage interest payments from measures of inflation?

Answer 25

If mortgage interest rates are excluded, then inflation will be lower if interest rates are low

Question 26

What are the disadvantages of excluding mortgage interest payments?

Answer 26

If Bank of england raises Interest rates, then inflation would be higher, making the government look worse

Question 27

What is RPIY?

Answer 27

RPI - Mortgage interest payments + Indirect taxes

Question 28

What is RPIY used for?

Answer 28

RPIY is used to measure core inflation, excluding food and energy prices

Question 29

Why is RPIY useful?

Answer 29

Food and energy prices are very volatile and economists want to compare rates of inflation effectively.

Question 30

Why might not CPI or RPI accurately measure inflation?

Answer 30

Not everybody spends their money on the same goods and services

Question 31

What is the ONS?

Answer 31

Office for national statistics, who measure inflation

Question 32

What is the difference between real and nominal values?

Answer 32

Real - Adjusted for inflation
Nominal - Includes inflation

Question 33

If nominal GDP rises by 2%, but inflation is 8%, what is the increase in real GDP?

Answer 33

2% - 8% = -6% in real GDP

Question 34

how to find real interest rate / GDP?

Answer 34

Nominal value - Inflation rate = real value

Question 35

What’s the significance of real interest rates?

Answer 35

Savers do not benefit if real interest rates are negative

Borrowers benefit if they are negative

Question 36

What is the significance of using real vs nominal values when evaluating the impact of increases in Government spending?

Answer 36

Government spending (G) is only beneficial after being adjusted for inflation