Inflation Learning outcome AC Define inflation

Slides:



Advertisements
Similar presentations
Chapter 8 Inflation These slides supplement the textbook, but should not replace reading the textbook.
Advertisements

1. Inflation is ... Inflation is a rise in the average price of goods over time Too much money chasing too few goods One of the first acts of the Labour.
INFLATION THE UK ECONOMY (MACROECONOMICS) TOPIC 2.
Inflation: a sustained rise in the general level of prices of goods and service over a period of time. Erodes the purchasing power of consumers. Calculation.
 Circular Flow of Income is a simplified model of the economy that shows the flow of money through the economy.
Macroeconomic Goals and Instruments
IGCSE Economics Prices. Learning Outcomes With regards to prices, candidates should be able to: Describe how a consumer prices index/retail prices.
International Trade. Balance of Payments The Balance of Payments is a record of a country’s transactions with the rest of the world. The B of P consists.
Certificate for Introduction to Securities & Investment (Cert.ISI) Unit 1 Lesson 8:  Inflation  Impact of inflation on economic behaviour  Measures.
Jeopardy InflationDeflation Costs of Price instability Price Index Unemployment Q $100 Q $200 Q $300 Q $400 Q $500 Q $100 Q $200 Q $300 Q $400 Q $500 Final.
Aggregate Demand and Supply. Aggregate Demand (AD)
INFLATION Definition: Inflation versus Deflation
Macroeconomic Performance AS Economics Unit 2. Aims and Objectives Aim: To understand measures of unemployment and inflation as measures of macroeconomic.
MACROECONOMIC OBJECTIVES OF THE GOVERNMENT. Learning Objectives Identify the four major macroeconomic objectives; Explain how the government can control.
Economic factors to consider  Inflation  Changes in the Interest rate (Monetary Policy)  Unemployment  Exchange Rate  Taxation (Fiscal Policy)
Chapter 32 Inflation. What do we call the verb to “blow up a balloon” to “inflate” So what is inflation in the economy? → Brainstorm a definition Inflation.
 Inflation is a sustained increase in the general level of prices Inflation rate is the annual % change in prices  A fall in inflation means that prices.
Chapter 17 Inflation and the Phillips Curve
You owe…. Article on Economic Cycle – Did you highlight the key issues – use 2 different colours? Did you summarise the key issues? Hand in your answers.
Macro- Economics Key ideas linked to exam questions.
LOW INFLATION. DEFINITION  A SUSTAINED GENERAL RISE IN PRICES.
Economic Environment Workshop Two. Indicators of Economic Performance -Output -Unemployment -Inflation -Balance of Payments.
MONETARY POLICY. What is it?  The use of interest rates and the money supply to control aggregate demand in the economy.
A.S 2. 1 Inflation Revision 4 Credits. Define the Following words Inflation _________________________________________ Deflation ________________________________________.
Goal #3 LIMIT INFLATION Country and Time- Zimbabwe, 2008 Annual Inflation Rate- 79,600,000,000% Time for Prices to Double hours Copyright ACDC Leadership.
Cost-Push Inflation Firms respond to higher costs by increasing prices (AS shifts inward) AD AS AS 1 PL GDP Causes: ↑imported raw material costs ↑ labour.
Impact on businesses of government policy
GDP and Economic Challenges
Starter: Recap… Macro effects of a currency depreciation
The Influence of Monetary and Fiscal Policy on Aggregate Demand
Chapter 7 Fiscal Policy and Monetary Policy
CISI – Financial Products, Markets & Services
Microeconomics Topic 1: The Economic Problem
Starter: Recap… Macro effects of a currency depreciation
QUESTION ONE
Money and Banking Lecture 42.
Inflation = “a sustained increase in the general price level leading to a decrease in the purchasing power of money” PRICE Part Two!
INFLATION.
ECONOMICS TOPIC: INFLATION.
The aim of monetary policy
ECON2: The National Economy
UNIT IVE INFLATION.
Cost-Push Inflation Firms respond to higher costs by increasing prices (AS shifts inward) Causes: ↑imported raw material costs ↑ labour costs ↑ indirect.
3.5 The Global Economy Balance of Payments
Chapter
Module 17- Aggregate Demand
Cost-push inflation (Person with the longest hair does the talking)
Macro Free Responses Since 1995
CHAPTER 1 INTRODUCTION TO MACROECONOMIC
Inflation.
What is Inflation? Why is the rising cost of child care an issue?
F1 Macro economic factors
International Economics How Does the Open Macro-economy Work?
Chapter3 The macro-economic environment
Inflation Rising prices.
Income and interest rates
Aggregate Demand and Supply
Chapter 13: Economic Challenges Section 2
The Influence of Monetary and Fiscal Policy on Aggregate Demand
INFLATION SSEMA1-You will illustrate the means by
Aggregate demand and aggregate supply
The Balance of Payments
Deflation What you must be able to do:
Inflation.
Chapter 13: Economic Challenges Section 2
Chapter 13: Economic Challenges Section 2
Chapter 8 Inflation These slides supplement the textbook, but should not replace reading the textbook.
Inflation.
Presentation transcript:

Inflation Learning outcome AC Define inflation SBC Economics Inflation Learning outcome AC Define inflation Explain how inflation is measured Describe the pattern of inflation in the UK in recent years Explain the causes of inflation and explain the processes with AS/AS curves Calculate using the Fisher formula (Quantity theory) Explain the effects of inflation Evaluate the various counter inflationary policies Reading: Units 28 and 89

A rise in the general price level Inflation A rise in the general price level

Inflation A fall in the general price level is described as deflation When inflation is very high it is described as hyper-inflation i.e. inflation of 2000% in Russia in 1992

Measuring inflation Measuring the change in prices is a difficult task Prices in the economy are represented by a ‘basket of goods’ The basket of goods contains goods and services that are commonly bought People find the prices of the goods and services over the country These prices are then used to calculate the average change in the price level

Measuring inflation In the UK inflation is measured using the retail price index (RPI) and the consumer price index (CPI) The RPI was the traditional index used to calculate inflation in the UK, it was however replaced with the CPI which was a common measure used in all EU countries There is one other measure known as the RPIX; this is the same as the RPI except that it excludes mortgage interest payments

Causes of inflation There are three main causes of inflation: Demand-pull inflation Cost-push inflation Growth in the money supply

Demand-pull inflation Demand-pull inflation is caused by increases in aggregate demand (outward shifts of the AD curve) As AD shifts outwards firms will increase output and increase their prices The extent of the increase in prices depends on the shape of the AS curve Persistent demand-pull inflation is caused by continuous outward shifts in AD as may be seen during a boom

Demand-pull inflation Price level AS P2 Q2 P1 AD2 AD1 O Q1 National output

Cost-push inflation Cost-push inflation is caused by decreases in aggregate supply (inward shifts of the AS curve) As firms face an increase in costs they will decrease output and increase their prices The extent of the increase in prices depends on the shape of the AD curve Persistent cost-push inflation is caused by continuous inward shifts in AS as may be seen when wages are consistently rising

Cost-push inflation AS2 AS1 AD Price level P2 Q2 P1 O Q1 National output

Growth in the money supply The Quantity theory of money (Fisher formula) states that: MV=PT Where: M = money supply V = velocity of circulation P = price level T = number of transactions

Growth in the money supply Using the Fisher formula it can be seen that if there is an increase in the money supply (M) the result will be an increase in the price level (P) The rise in the price level is inflation caused by growth in the money supply Moderate growth in the money supply is acceptable, however excessive growth in the money supply will cause inflationary problems

Inflation Inflation is generally considered to be a problem, the higher the rate the greater the problem There are a number of costs of inflation, namely: Shoe leather costs Menu costs Psychological costs Redistribution of income Unemployment and growth Investment Trade Lending and saving

Costs of inflation Shoe leather costs When inflation is low consumers and firms know what the market price is When inflation is higher consumers will have less idea of the market price and will search around for the lowest price, the time spent doing this is a cost When inflation is high consumers will prefer to keep their money in the bank rather than in cash, they have to go to the bank more often when they need money, the time spent doing this is a cost

Costs of inflation Menu costs When there is inflation firms will have to change their prices Restaurants will have to print new menus Shops will have to change their price labels Firms will need to alter vending machines and parking meters

Costs of inflation Psychological When there is inflation people see prices increasing, they feel as if they are worse off (even if their incomes are increasing) Redistribution of income Inflation reduces the value of money People earning a fixed income will see the value of their income reduced It will reduce the value of money saved in the bank If tax allowances and tax bands are not changed people will pay a higher % of their income in tax

Costs of inflation Unemployment and growth Inflation increases the costs of production and creates uncertainty This lowers the level of investment Investment Lower investment results in lower economic growth and creates unemployment

Costs of inflation Trade If inflation is greater than in other countries and the value of the currency does not change then exports will become less competitive and imports more competitive The result is a worsening of the trade balance Lending and saving Inflation erodes the value of money and therefore people that save will be worse off and those that borrow will be better off

Counter inflationary policies Inflation can be controlled using: Monetary policy Fiscal policy Exchange rate policy

Monetary policy Monetary policy can effect aggregate demand If the government (or central bank) use deflationary monetary policy then AD will shift inwards and there will be a decrease in the price level (lower inflation) Examples: raise the interest rate, reduce the money supply, restrict the availability of credit

Fiscal policy Fiscal policy can effect aggregate demand If the government use deflationary fiscal policy then AD will shift inwards and there will be a decrease in the price level (lower inflation) Examples: cut government spending, increase the tax rate

Exchange rate policy Exchange rates can be used to control inflation; it works in two ways: Firstly, a higher exchange rate (stronger currency) will make imports relatively cheaper thus reducing the price level Secondly, a higher exchange rate (stronger currency) will lead to a fall in exports and a rise in imports (X↓ M↑) this will lead to a decrease in aggregate demand and the AD curve will shift inwards

Deflationary policy AS AD1 AD2 Price level P1 P2 O Q2 Q1 Monetary policy, fiscal policy or exchange rate policy can be used to shift the AD curve inwards and therefore reduce the rate of inflation Price level AS P1 P2 AD1 AD2 O Q2 Q1 National output