Transcript Inflation - SP Moodle

Economic Indicators
INFLATION & THE
CONSUMER PRICE INDEX (CPI)
Recap: The 4 main macroeconomic objectives
ECONOMIC
GROWTH
FULL EMPLOYMENT
(LOW UNEMPLOYMENT)
HOW ARE EACH OF THESE MEASURED???
LOW & STABLE
RATE OF INFLATION
(IMPROVED)
EQUITY IN THE
DISTRIBUTION OF INCOME
INFLATION
key definitions
• INFLATION
•An increase in the general price level over time that results in a
decrease in the purchasing power of a currency
• DEFLATION
•A decrease in the general price level over time
• DISINFLATION
•A decrease in the rate of inflation
• CPI (CONSUMER PRICE INDEX)
•A basket of goods and services consumed by the average
household whose prices can be measured over time
Video:
http://www.investopedia.com/video/play/what-is-the-consumer-price-index-cpi/
INFLATION
• What is a dollar worth?
– http://www.usinflationcalculator.com/
• What is purchasing power?
– The value of a particular monetary unit in terms of
the goods or services that can be purchased with it.
• US Consumer Price Index, 1913-present
– http://www.minneapolisfed.org/community_education/teacher/calc/hist1913.cfm
– Using the info, when did inflation, disinflation, and
deflation occur?
CPI v. GDP Deflator
• CPI
• GDP Deflator
– Smaller: Only looks @
samples of retail
(consumers)
– Includes imports (if in the
‘basket’)
– Prob: Not all consumers
buy the same
things…Think about
baskets for:
– Broader: Looks @ total
economy, not just “C”
– Does not include imports
– Prob: Slower to compile
than CPI (time delay)
• A family w/kids
• A single adult
• An elderly couple
But both measure inflation and are calculated using a
base year!
What goes into the CPI?
http://www.bls.gov/dolfaq/bls_ques3.htm
Housing is the biggest expense!
(How much would the house rent for?
Not how much does it cost to buy)
What goes into the CPI?
Not everything stays!
• 2014 : NZ removed envelopes &
dictionaries removed in NZ
• 2010: England added lip gloss &
removed lipstick
Other ways to measure inflation
• FOCUSING ON “CORE” RATE OF CPI
– B/c food & oil prices may fluctuate so much,
economists often eliminate them from CPI
• PRODUCER PRICE INDEX
– Measures changes in the prices of factors of
production. *Can help in predicting future inflation
WHY DOES INFLATION OCCUR?
•
QUANTITY THEORY
• DEMAND • COST-PULL
PUSH
Who benefits from inflation?
Who is hurt by inflation?
Let’s find out in the
“Inflation: Types & Effects” contest!
Can inflation occur only
for certain goods and
services and not others?
• Let’s take a look...
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Is this showing
nominal or real
increases in prices?
What explains the
higher cost of
education/medical
care?
Note: A rise in the cost
of one type of good
DOES NOT equal
inflation!
Negative Consequences of
Inflation/Deflation
• possible negatives of inflation?
• greater uncertainty
• redistributive effects
• less saving
• damage to export competitiveness
• Menu costs
• possible negatives of deflation?
• high levels of cyclical unemployment
• bankruptcies
14
Redistributive Effects of (Unanticipated)
Inflation
• Losers
• Fixed income/wages (or wages that don’t
increase as fast)
• Holders of cash
• Savers (w/o interest)
• Lenders (creditors)
15
ANOTHER PROBLEM
WITH UNANTICIPATED INFLATION
• Since purchasing power is decreasing,
people may spend more now.
– Would this lead to more or less inflation?
16
DEFLATION
• The “deflationary spiral”
JAPAN &
DEFLATION
FINALLY...WHY IS DEFLATION BAD?
• ***don’t forget--cyclical unemployment & bankruptcies***
• 3 Reasons from Paul Krugman – (demand side)–people put off spending/spend less
http://krugman.blogs.nytimes.com/2010/08/02/why-is-deflation-bad/)
(in other words…they are less willing to borrow)
• *sitting on cash becomes a positive investment
• *borrowers must repay in $$$ worth more than
what they borrowed
– (demand side) - increases real burden of debts
• debtors cut spending when debt rises
• Also…consumers postpone purchases (Why?)
• creditors don’t increase spending by same
amount
– (supply side) - downward nominal wage rigidity
• in simple terms...wages rarely fall unless they
are accompanied by mass unemployment
19
SO…IF DEFLATION IS BAD &
TOO MUCH INFLATION IS BAD,
THEN WHAT IS ACCEPTABLE?
2%-3% in developed countries
A little higher in developing countries
(if the economy is growing!)
Inflation - Exercise
• Go to www.economist.com
• Click on economics, and then market & data, and then
output, jobs etc.
1. List three countries with the highest inflation rate in
the developed world.
2. List three countries with the highest inflation rate in
the developing world?
3. A inflation rate of between 2 to 3% is considered a
healthy range for a developed economy with
moderate growth rates. How many countries are in
this category?
Extra:
‘Fun Facts’ about how
price indices are formed
HOW TO MEASURE INFLATION:
PRICE INDICES
Price Indices
• The main function of a price index is
to give a generalized and simplified
view of price changes by
summarizing in one figure, the
general movements in prices of a
number of a number of
commodities.
HOW TO MEASURE INFLATION:
COMPILING A PRICE INDEX
Selection of a Regimen
• The regimen is the group or basket of
commodities whose price changes are to be
summarized in the price index.
Collection of Accurate Prices
HOW TO MEASURE INFLATION:
COMPILING A PRICE INDEX
Selection of a Base Year or Period
• It is necessary to select a period as a standard
with which prices in other periods can be
compared.
• This should be a normal period (not a war
period or period of high inflation or a
recession).
• The aggregate expenditure on the regimen in
the base period is denoted by the index
number 100.
• The index number for the following years is
then expressed as percentage.
HOW TO MEASURE INFLATION:
COMPILING A PRICE INDEX
Weighting the Items
• This is an attempt to assess the relative
importance of expenditure of items included
in the regimen.
• Eg. Milk would be given greater weighting
than Jeans, because it is purchased more
often and is more important to the majority of
the population.
• In creating a indice, weight can simply return
to the frequency of purchase.
HOW TO MEASURE INFLATION
PRICE INDICE - EXAMPLE
Product
Weight
Price
2007
Expenditure Price
2007
2008
Quiksilver
1
Boardshorts
$49
49
$55
55
Pauls
Milk 2 Litre
30
$3.10
93
$3.25
97.5
Top 10 CD
(Target)
3
$20.50
61.5
$21.15
63.45
Train Ticket
(Metrorail)
20
$3.95
79
$4.05
81
282.5
TASK: Using the above information calculate the inflation rate for 2008
Expenditure
2008
296.95
HOW TO MEASURE INFLATION
PRICE INDICE - EXERCISES
Formula CPI = (296.95/282.5) x 100
= 5.12%
New weighted Total Price
Old Weighted Total Price
x 100
What is the inflation rate in the island
nation of Isla Bonita?
Product
Weight
Price
2012
Expenditure Price
2012
2013
Swimming
Suit
1
$35
$40
1 Litre
Orange
Juice
25
$1.25
$1.35
1 Bus
Ticket
15
$2.25
$2.30
Rent
(average
apartment)
1
10000
11000
Expenditure
2013
TASK: Using the above information calculate the inflation rate at end of 2013
The Consumer Price Index (CPI)
A Key Economic Indicator
• Most countries in the world publish a CPI which is a key
economic indicator.
• The consumer price index is sophisticated price indice.
• Data is published monthly.
• The CPI includes a range of goods and services.
• This includes the cost to rent average home, the price
of bus tickets, and a range of food and beverages.
• Housing has the strongest weighting in most CPI
calculations.
• In many countries, the CPI also includes items such as
tobacco, which some economists believe should be
excluded.
Deflation
• During periods of economic contraction (negative
GDP), an economy may experience deflation –
prices on average start falling.
• Alternatively, a country may have positive GDP
growth generated by exports sales, but still have
very low levels of demand in the domestic
economy. This low level of demand in the
domestic economy will force prices down. This is
the problem in Japan.
• Japan has suffered from several periods of
deflation in the last 15 years.
THE UNDERLYING
INFLATION RATE
• Instead of just quoting the standard or headline CPI
figure, some economists cite the underlying CPI rate,
as a more accurate reflection of price changes.
• The underlying CPI rate is an attempt to identify the
price changes resulting from real demand and supply
forces at work in the domestic economy and not
price changes caused by temporary institutional or
external (international) factors.
• The underlying CPI measure excludes seasonal
factors, petrol prices and government and financial
charges which are included in the headline rate.