2.1.2 Inflation

• What is the target for inflation in the uk?

  2%
• Inflation is a sustained increase in the cost of living or general price level leading to a fall in the purchasing power of money
• The rate of inflation in measured by the annual percentage change in consumer prices
• The UK Government has set an inflation target of 2% using the consumer prices index (CPI)
• Its the job of the bank of England to set the monetary policy interest rates so that inflationary pressures are controlled
• A fall in inflation is not the same as a fall in prices, its a slow down in the increase of prices. Only when there is disinflation will the general price level fall.
• What is consumer price index?


  Measure of inflation that tracks the average change in prices of goods and services over time.
• What is deflation?

  A sustained period when the general price level for goods and services is falling. This means the CPI is becoming less expensive over time, it is the opposite of inflation and is associated with a fall in GDP
• Disinflation refers to a slowdown or a fall in the annual rate of price inflation. Consumer prices are still increasing, but more slowly. This drop in the inflation rate may be temporary in nature. Inflation is still positive but the general price level is not rising as quickly.
• Hyper inflation is an extreme and rapid increase in the general price level of goods and services in an economy, it erodes the purchasing power of money, leading to a loss of confidence in the currency and lack of economic stability
• Unit labour costs are defined as the average cost of labour per unit of output produced. Businesses pay workers compensation that can include both wages and benefits, such as health insurance and retirement contributions
• What is demand pull inflation?

  The demand increases but supply stays the same pulling the price up
• An inelastic goods means demand does not change significantly with a price change
• An elastic good means demand changes more than proportionally to the change in price
• Cost push inflation is when the cost of production increases, causing the price of the good to increase, it could be caused by rising wages in labour markets, rising import prices and increasing raw material costs
• Administered prices are the prices that producers receive for their products, a change in regulated prices can cause inflation
• Rising property prices, increase in prices of commodities, depreciating exchange rates and rapid expansion of money and credit from banks are all examples of factors that affect inflation
• Internal causes of inflation are: large surge in property prices, higher wages, labour costs, boom in credit, money supply and rise in business taxes
• Internal causes of inflation can be controlled for example the government steps in
• External causes of inflation: increase in world oil/gas prices, inflation in global commodity prices, depreciation of exchange rates, high inflation in other countries, wars
• External causes of inflation cannot be controlled by the government, but can be controlled by the government through monetary policy.
• Problems caused by inflation are inequality, falling real incomes, negative real interest rates, cost of borrowing is high, risks of wage inflation, businesses competitiveness and businesses uncertainty
• Those who have loans will 'win' wit inflation as the value of their debt is decreasing
• Producers if prices rise faster than costs will 'win' in inflation as they can charge high prices with lower costs
• People on fixed incomes will 'loose' in inflation as they will have to spend more of their income on essentials
• Workers in low paid jobs will be affected severely by inflation, as they will have to spend a larger proportion of their income on basic necessities
• What are constant prices?


  Tells us that data has been inflation adjusted
• Cost push inflation?

  Prices driven higher due to an increase in higher unit wages, import prices and indirect taxes
• What is creeping inflation?

  Small rises in the general price level over a long period of time
• What is demand pull inflation?

  Rising prices that result from a high level of aggregate demand (GDP) relative to potential output
• Purchasing power?

  The buying power of a unit of currency, it is inversely related to the rate of inflation
• What is a real wage?

  Nominal wage adjusted for the effects of inflation
• What is relative deflation?

  An economy with an inflation rate which is lower than comparable economies
• What is stagflation?

  Combination of slow growth and rising inflation
• What is wage price spiral?

  Where workers bid for higher pay because they have seen real income eroded by rising prices