Ch 9 & 10- Inflation

Question 0

What is CPI?

Answer 0

Consumer Price Index
The method of reporting the level of inflation in Australia.
As an index number, it summarizes the overall change in prices of a large number of goods and services

Question 1

Define inflation

Answer 1

Inflation is the persistent and appreciable rise in the general level of prices. It applies to price increases that occur across time and across a range of goods.

Question 2

Define the rate of inflation

Answer 2

The rate at which prices are changing

Question 3

What are the two explanations of inflation?

Answer 3

Demand pull and cost push inflation

Question 4

What are the indicators of demand pull inflation? (3)

Answer 4

• High levels of durable consumption spending
• excess demand labour (increase wages and thus prices)
• excess money supply (rate growth of money supply faster than rate growth of real output)

Question 5

What are the indicators of cost push inflation? (4)

Answer 5

• wages increase more than productivity
• price of imports rise (perhaps depreciation of domestic currency)
• oil price rise
• gov charges and taxes rise

Question 6

How does the business cycle affect inflation?

Answer 6

Periods of high aggregate demand associated with inflationary pressure. Too much money chasing too few goods.

Can happen for G&S and FOP (e.g. labour b/c scarce labour = rise wages)

Question 7

How does international influences affect inflation?

Answer 7

Depreciation in exchange rate being inflation b/c imported goods more expensive. (Cost push inflation)

Strength of AUD kept pace with rise in fuel price

Question 8

How does deregulation affect interest rates?

Answer 8

Removal of restrictions decrease costs, meaning producers will be able to sell for lower prices

Question 9

What factors influence rate of inflation? (6)

Answer 9

• business cycle
• international influences
• structural and deregulation
• supply shocks
• expectations
• monetary conditions in the economy

Question 10

How does expectations affect inflation?

Answer 10

If HH and F expect inflation to happen or continue, guarantees will b/c economic agents (e.g. Consumers, producers, government) build inflation into their econ plans for future.

Consumers will tend to bring forward their consumption decisions if they expect prices to rise. Increases demand.

Question 11

How does monetary conditions affect inflation?

Answer 11

If prices rise continuously, must be accompanied by increase money supply. Money supply rise too fast will bring inflation as level of spending and availability of credit in economy create excess spending.

Question 12

What are the inflation risks?

Answer 12

Currency depreciation-
If dollar fall, import more expensive

Drought and water prices-
Cost push

Rise fuel prices-
Cost push as well

Question 13

What are the output effects of inflation?

Answer 13

• economic inefficiency. Diverts resources away from productive activities to speculative
• uncertainty
• capital for labour substitution
• lack of confidence
• international competitiveness

Question 14

What are the redistribution effects?

Answer 14

• Borrowers benefit. Debt repayed after real value of payments fall.
• welfare payments increase
• social effects

Question 15

What is deflation?

Answer 15

Sustained fall in the general level of prices in an economy.

Question 16

Why is deflation a cause for concern?

Answer 16

• caused by demand goods falling
• firms sell fewer G&S for cheaper (decrease profit)
• cut wages
• HH income fall
• even less consumption
• value of debts rise

Question 17

Define the participation rate

Answer 17

A measure of the proportion if the working age population either working or looking for work.

Question 18

Define unemployment

Answer 18

When people who are willing and able to work cannot find a job.

Question 19

What is the unemployment rate?

Answer 19

The proportion of the labour force who are willing and able to work but have not been employed in paid work for at least one hour in the survey week.

Question 20

Define voluntary and involuntary unemployment

Answer 20

Voluntary-
If a worker decides to leave job search for another position

Involuntary-
Worker laid of work

Question 21

Define frictional unemployment

Answer 21

Occurs as workers change jobs and spend time looking for new one

Question 22

Define seasonal unemployment

Answer 22

Occurs because consumer demand for some G&S is seasonal. (E.g tourism)

Question 23

Define cyclical unemployment

Answer 23

When there is too little demand for G&S during an economic recession

Question 24

Define structural unemployment

Answer 24

When there is a mismatch of available and required skills in a geographical or occupational sector of the economy.

Question 25

What is the natural rate of unemployment?

Answer 25

The minimum level of unemployment which can be achieved (4.5% in Aus)
Main reason no zero unemployment because of persistent structural unemployment.

Question 26

Why does minimum wage make hard to achieve zero unemployment?

Answer 26

B/c it tends to create an employment barrier b/c labour is oversupplied. Demand and supply are not in equilibrium.

Question 27

Why does labour union power make it hard to achieve zero unemployment?

Answer 27

Tends to associate with above equilibrium rate of pay and inflexibility associated with regulated working hours and conditions.

Question 28

How do regulations affect the natural rate of unemployment?

Answer 28

Sometimes cost of complying with regulations greater than benefits

Question 29

How does unemployment affect output?

Answer 29

• underutilization of resources
• lower consumption
• lower investment
• decrease consumer and business confidence
• decrease gov revenue

Question 30

Define underlying inflation

Answer 30

Underlying inflation is the changing of prices of the prices of inelastic goods (involatile items).

Question 31

Define headline inflation

Answer 31

The changing prices of volatile/ elastic goods.

Question 32

Define demand pull inflation

Answer 32

• “too much money chasing too few goods”

- high levels of demand caused by high levels of aggregate expenditure

Question 33

Define cost push inflation

Answer 33

Cost push inflation occurs when rising production costs are passed on to consumers, who then have to pay higher prices for final goods and services.

Question 34

What is the short term trade-off between unemployment and inflation?

Answer 34

High employment= high inflation

Question 35

Effects of unemployment

Answer 35

• Unemployed labour represents unused resources therefore output of the economy must be less than its potential max
• Lower levels of aggregate consumption
• lower investment
• lower business confidence