Inflation

Question 1

Retail prices index

Answer 1

Measure of inflation that JD used for adjusting pensions and other benefits to take account of changes in inhalation and frequently used in wage negotiations

Question 2

RPIX is..

Answer 2

RPI minus mortgage interest payments

Question 3

RPIY is…

Answer 3

RPIX minus indirect taxes

Question 4

Difficulties of measuring inflation

Answer 4

Not a true reflection of price changes-

like for like products are not actually compared. For example, a television may increase in price but this is only to reflect the improvements in technology that it now contains

Overstates inflation-

The “basket of goods” does not allow for changes in people’s shopping habits within the year. If the price of a product increased consumers will stop purchasing it and find a cheaper alternative

Figures are only averages- nobody actually purchases everything in the basket and the weighting are only an average. A pensioner’s shopping will differ substantially to that of a young family and so some people will be worse off

Question 5

Demand-pull inflation

Answer 5

Increases in the price level caused by a increases in aggregate demand

Question 6

Cost-push inflation

Answer 6

Increases in the price level caused by increases in the costs of production

Question 7

Costs of inflation

Answer 7

Menu costs 
Shoe-leather costs 
Inflationary noise 
Fiscal drag 
Fall in the value of money 
Random redistribution of income 
Uncertainty 
Inflation causing inflation 
Loss of international competitiveness

Question 8

Fall in the value of money

Answer 8

A rise in price levels mean that the value of money falls.
People can’t buy as many goods with their money.
Their purchasing power has reduced

• living standards reduced

Question 9

Menu cots

Answer 9

The costs of changing prices due to inflation

Constant changes in price levels mean that businesses, especially takeaways, have to continually change their prices.
This is costly both in time and money

Question 10

Shoe leather costs

Answer 10

Costs in terms of the extra time and effort involved in reducing money holdings

Inflation means that people have to spend time searching for the best deals either in goods or in bank services.
This time is an economic cost

• opportunity cost

Question 11

Inflationary Noise

Answer 11

The distortion of price signals caused by inflation

Reports in the media make people believe that prices have risen.
They are therefore prepared to spend more money on products when this may not have happened

Question 12

Random redistribution of income

Answer 12

When there is inflation, skilled workers gain pay rises but minimum wage earners do not.
This is a huge problem for the Government who will be unable to adequately redistribute income from the rich to the poor

Question 13

Fiscal drag

Answer 13

People’s incomes being dragged into higher tax brackets that are not adjusted for inflation

This occurs when people gain a pay rise that matches inflation to maintain spending power
BUT
This drags them into a higher tax bracket and makes them worse off

Question 14

Uncertainty

Answer 14

Unanticipated inflation causes firms and consumers to lose confidence, leading to a fall in C and I, possibly negative economic growth

Question 15

Inflation causing inflation

Answer 15

When people and firms hear that price levels may rise they stock up on products.
This leads to an increase in C, an increase in AD, leading to inflation

Question 16

Loss of international competitiveness

Answer 16

Inflation causes price levels to rise, which means that UK products become more expensive for people abroad, thus the UK loses competitiveness

Question 17

CPI- Consumer price index

Answer 17

A measure of changes in the price of a representative basket of consumer goods and services
Prices of a “basket of shopping” are collected and compared to a base year
The basket is updated every year to reflect the change in people’s spending habits and the categories are weighted to reflect the proportion spent on them