2.1.2

Question 1

Define inflation

Answer 1

Inflation is a sustained increase in the cost of living or the general price level (GPL) over a period of time leading to a fall in the real
purchasing power of money.

Question 2

How is inflation measured

Answer 2

The rate of inflation is measured by the annual percentage change in consumer prices. (through retail price index and consumer prices index)

Question 3

Define disinflation

Answer 3

Disinflation is a fall in the rate of inflation but not sufficient to bring about deflation. This means that consumer prices are still rising but at a slower rate

Question 4

What is the CPI

Answer 4

The Consumer Prices Index (CPI) is the main measure of inflation used in the UK and the European Union.

Question 5

How is the CPI calculated

Answer 5

A base year for prices is selected, and a family expenditure survey is carried out – the survey covers many
thousands of UK households. They survey tracks what people are buying from month to month.
• A representative basket of over 700 goods and services is used, and weights are attached to each item –
these are based on these items’ importance in people’s expenditure.

• Weights are then multiplied by price changes for each item in the index
• The weighted price changes are then totalled to calculate the inflation rate.

Question 6

State 5 limitations of the CPI as a measure of inflation

Answer 6

1) CPI is not fully representative (inaccurate for non-typical households like those in top 4% of incomes)
2) Spending patterns (single people have diff spending patterns to family households)
3)changing quality of goods and services; change in level of prices May lead to change in quality which is not shown in CPI
4) New products: The CPI is slow to respond to new products and services – the CPI basket is changed each year so wont show short terms changes
but only a few items fall out or come in for the first time
5) Doesn’t account for regional differences in the cost of living

Question 7

Define deflation

Answer 7

A persistent fall in general price level of goods and services shown by a negative rate of inflation

Question 8

Define hyperinflation

Answer 8

prcies rise extremely quickly and money rapidly loses its value

Question 9

what is the difference between RPI and CPI

Answer 9

1) mortgage interest payments and council tax excluded for cpi
2) larger sample used for CPI
3) cpi is official measure of inflation (RPI is an alternative measure)

Question 10

State 5 uses of RPI and CPI

Answer 10

1) employers and trade unions use them as starting point in wage negotiations
2) gov uses it to decide on state pension increases and other welfare benefits
3) used to measure changes in UK’s international competitiveness; if CPI rate of inflation higher in UK than it trade partners, Uk goods become less price competitive and cost more for other countries, so exports fall, imports rise

Question 11

What is the claimant count

Answer 11

Unemployed at

Question 12

State three causes of inflation

Answer 12

o Demand-pull
o Cost-push
o Growth of the money supply

Question 13

What are cost push factors

Answer 13

1) Cost-push inflation is inflation which is caused by the rising cost of inputs to production.
2) Rising costs of inputs to production force producers to pass on the higher costs to consumers in the form of higher prices

Question 14

State and outline three cost push factors

Answer 14

1) A rise in wages above any increase in productivity
- if wages make up a large proportion of firms costs, a firm will raise prices so employees demand higher wages in a time of inflation so a firm riases prices further

2) A rise in the cost of imported raw materials
If the world prices of inputs rise, producer have higher costs so they increase price so lead to higher domestic inflation
Also, if a country’s currency decreases in value then producers will have to pay more for the same imports.

3) A rise in indirect taxes (taxes levied on a good/service)
If the government raises indirect taxes this will increase costs and, in turn, prices.
If a good is price inelastic then more of the cost of the tax will be passed on to the consumer.

Question 15

State what demand pull factors are

Answer 15

Demand-pull inflation is inflation caused by excessive growth in aggregate demand
compared to supply. This growth in demand shifts the aggregate demand curve to the right allowing firms to increase their prices

Question 16

Describe three demand pull factors

Answer 16

1) High consumer spending or high demand for exports
- High consumer spending (bc confidence in consumers’ future employment prospects)
or Low interest
rates encourage cheap borrowing and greater spending.
High foreign demand for exports could be caused by rapid economic growth in other countries

2) Money Supply
- If the amount of money in the economy is not matched by the output of goods and services this can lead to rise in prices (too much money chasing too few goods)

3) Bottleneck shortages
- If demand grows quickly at a time when labour and resources are already being fully used, increasing output leads to shortages (i.e. there may be a positive output gap).
These shortages will cause prices to rise and firms’ costs to increase.

Question 17

Define cost push inflation

Answer 17

inflation caused by rising costs of production either domestically or from importing raw materials at higher prices due to exchange rate depreciation

Question 18

Define CPI

Answer 18

The CPI is the UK government’s preferred measure of inflation, it measures changes in the average cost of living for a representative household and is a weighted price index

Question 19

Define wage spiral

Answer 19

Where workers bid for higher wages because they have seen their real income eroded by rising prices. This can lead to a further burst of cost-push inflation

Question 20

Define money supply

Answer 20

The entire quantity of a country’s commercial bills, coins, loans and credit.