Transcript INFLATION

LOW
INFLATION
DEFINITION
A
SUSTAINED GENERAL RISE IN PRICES
DISTINGUISH
 CREEPING
INFALTION
 HYPER-INFLATION
HOW IS IT MEASURED
 Surveyors
are sent out to record the prices
of a basket of goods in a variety of
different retail units.
 Price
changes are then recorded and
calculated. Changes in prices are
weighted.
Weighted Prices
 This
means that changes in price of goods
which form a large proportion of spending
(oil) plays a more significant role than
goods which are not so significant
(pineapple).
 The
weighted price changes are then
recorded against a base value of 100.
 A change in the price level is known as

Inflation or Deflation.
 The measurement tool is known as the
Consumer Price Index.
Accuracy of Price Indices
 It
is important to realise that a price index
is a weighted average.
 What
does that mean?
Why is it important to
calculate the rate of inflation?
 Trade
Unions need to know.
 Government needs to know and base
changes in spending and taxes on it.
CPI and RPI
 The
RPI (Retail Price Index) covers more
than the CPI –
 RPI
Also Includes:
 Mortgage interest payments
 (MIPs)
 • Council tax
CPI Does not include
 Mortgage
 Council
payments
taxes
Weaknesses of the CPI
 There
can be statistical errors.
 Cannot study the black market.
 Ignores house interest repayments.
 Ignores the quality of the goods.
Causes of Inflation
 Insert
funny picture?
Unbelievable
Truly Disturbed Individual
Demand Pull Inflation
 Caused
by excessive demand in the
economy.
 Graph
Causes of Demand Pull
Inflation
 Rise
in consumer spending caused by low
interest rates.
 Firms
may raise investment spending.
 Government
tax cuts
Cost Push Inflation
 Changes
occur in the supply side of the
economy.
Causes
 Wages-
Account for 70% of the national
income.
 A rise in wages could be a significant
cause of rise in costs of production.
Causes
 Import
 The
prices may rise.
U.K. Imports 50% of its food.
 What
else would they have to import?
 Governments
can raise indirect tax rates
or reduce subsidies, causing an increase
in the cost of production.
Remember

Firms will try to pass increased prices on to
consumers.
 To
what extent is this possible?
DEFLATION AND WHAT IT
MEANS TO YOU.
 Defined
as the fall in price level.
Supply Side Deflation
 Not
that bad for the economy.
 Decrease




in overall costs of production.
Lower import prices
Lower minimum wage
Appreciation of nation`s currency.
Lower taxes
Fall in AD Deflation
 Not
good for the economy.
 This
is caused by a fall in aggregate
demand.
 What
are the components of aggregate
demand?
Costs of Deflation
 Rising
 Fall
unemployment
in investments
 Falling
consumption and increased
savings.
THE COSTS OF INFLATION
Loss of Purchasing Power
 If
prices rise and household incomes do
not, then households become poorer in
real terms.
Lower Real Interest Rates
for Savers

A Household invests in a fixed interest rate
investment of 4%.
 Inflation
 How
goes up by 7%
did that work out for the household?
Higher Nominal Interest
Rates for Borrowers
 In
times of inflation banks charge a higher
interest rates to borrowers.
Redistribution of Income
 Anybody
on a fixed income will suffer in
times of inflation.
 This
is why some fixed incomes are tied to
rates of inflation.
 Taxes
and government spending may not
change with rates of inflation.
 How
could this be bad for a government?
Reduction In Ability to Sell
Goods Abroad
 Why?
The Phillips Curve
 The
Phillips Curve shows
that there is a negative
relationship between
the macroeconomic
objectives of price
control and full
employment.
This is what Phillips said...
 Loose
fiscal and monetary policy will
create more jobs but cause price levels to
rise in classic demand pull inflation.
 Similarly, tight fiscal and monetary policy
will cause less spending, more
unemployment but help achieve the
macroeconomic objective of price
control.
The Phillips Curve and You
 You
can use the Phillips curve in answers,
both through words or diagrams.
 However,
mention that the curve is an
imperfect economic measurement as it
breaks down when the economy is hit
with ………………...
Supply Side
Inflation/Deflation
 This
‘supply side shocks’ bit is particularly
true commodity prices around the world
are very unstable.
Homework - Economy X
 Vital
Statistics:
 Growth: Q211
+ 0.2%
 Unemployment
12%
 Inflation
3.5%
 Budget deficit
6.7%
 The finance minister would like to run a
higher budget deficit and reduce the
interest rate. Assess the economic
implications of these actions.
Homework - Economy X
 Vital
Statistics:
 Unemployment 12%
 Inflation 3%
 Budget deficit 6.7%
 The finance minister would like to run a
higher budget deficit and reduce the
interest rate. Assess the economic
implications of these actions.