INFLATION

Question 1

What is Creeping Inflation?

Answer 1

A low and stable rate, of for instance 2%, is generally regarded not to be a problem. Indeed,
seeing a low and steady rise in prices may encourage firms to produce more. Such a rate of
inflation is sometimes known as creeping inflation.

Question 2

What is Hyper Inflation?

Answer 2

Hyperinflation is an extreme form of inflation in which price level rises by, 100s, 1000s and
million times in a year.

Question 3

What are the effects of Hyperinflation?

Answer 3

1) Money loses all its value. Barter is preferred over exchange of money and money loses its medium of exchange function.
2) A different currency might be used in the country now.
3) The economy may collapse.

Question 4

What is base and current year index?

Answer 4

Current Year Index is the average prices of a basket of goods generally termed as necessities.
Base year is the standard year with which rest of years prices are compared.

Question 5

What is the formula of index?

Answer 5

Index= Current Year Price/ Base Year Price

Question 6

what are the formulas of weight and weightage index/

Answer 6

weights= money spent on certain good/ total income * 100

weightage index= Index* weights

Question 7

What is the formula of CPI?

Answer 7

CPI = Total weightage index/ Total Weights

Question 8

how to find rate of inflation?

Answer 8

CPI2-CPI1/ CPI1 *100

Question 9

Problems with calculating rate of inflation?

Answer 9

1) What year to take as Base year price index year
2) Which goods to add in basket
3) Different people different weights
4 Price fluctuation of selected goods
5) sampling errors
6) False statistic data
7) comparison between long years is not possible
8) Comparison between countries: It is even more difficult to compare consumer price index of
one county with another because of:
∑ Base year differences

Economics AS Level

Waqas Iqbal 0321-4426693
∑ Differences in basket of goods
∑ Prices of selected goods differ
∑ Differences in weightage

Question 10

What is demand pull inflation?

Answer 10

If there is too much demand in the economy relative to the supply of goods and services, prices
will rise and this type of inflation is known as demand-pull inflation.
When the economy is initially operating below full employment, increase in AD will lead to
increased prices as well as real GDP.

Question 11

Reasons for increase in Aggregate Demand?

Answer 11

1) Too much consumer spending
2) Too much government spending on merit goods, public goods infrastructure etc and
reduced taxation (Expansionary fiscal measures or budget deficit)

Question 12

What do monetarists believe?

Answer 12

Monetarists argue that the key cause of higher aggregate demand is increases in the money
supply. They suggest that if the money supply grows more rapidly than output, the greater
supply of money will drive up the price level.

Question 13

What is cost push inflation?

Answer 13

When gdp decreases and price level increases due to shifting of the supply curve to the left.

Question 14

What is the reason for cost push inflation?

Answer 14

1) Indirect taxation
2) Increase in cost of labor
3) Increase in cost of raw material
4) Increase in prices of OIL which is used in almost any industry

Question 15

The consequences of inflation?

Answer 15

1) Standard of living drops
2) Importing is very expensive thus cost of of production also increases
3) Menu Cost
4) Shoe Leather Cost
5) Created uncertainty for a firm and limits foreign investment due to increase in prices
6) Since government usually has price ceiling on essential items. People will start producing non essential items for profit.
7) Prices increase. More imports less exports. More inflation and spiral.
8) Confusion in the market. Company may increase production of a certain good because its price is increasing. They think demand increased but in true its inflation that is increasing. So misallocation of resources.
9) Inflation causing inflation:
Inflation may generate further inflation as consumers, workers and firms will come to expect
prices to rise. As a result, they may act in a way that will cause inflation. For example, workers
may press for higher wages, firms may raise prices to cover expected higher costs and
consumers may seek to purchase products now before their prices rise further. If prices start to
rise at an abnormal rate creating a hyperinflation situation, then there is fear of an eventual
collapse of the monetary system.

Question 16

What is inflations effect on functions of money?

Answer 16

1) if hyperinflation people prefer to use barter and medium of exchange finishes
2) Store of value also finishes
3) standard of deferred payment also useless
If the inflation is creeping than only store of value will be slightly effected.

Question 17

What are political factors being affected by inflation??

Answer 17

1) Protests by opposition parties
2) Roads blocked. Businesses late deliveries loss of money
3) Labor class protests due to increase in difference of poor and rich and thus the masses are unhappy.
4) Corruption due to bad conditions.

Question 18

Benefits of Inflation

Answer 18

Stimulating output: A low and stable inflation rate caused by increasing demand may make
firms feel optimistic about the future. In addition, if prices rise by more than costs, profits will
increase, which will provide funds for investment.
Reduce the burden of debt: During the period of inflation, real interest rates may fall or may
even become negative. This is because nominal interest rates do not tend to rise in line with
inflation. As a result, debt burdens may fall. For example, those who have borrowed money to
buy a house may experience a fall in their mortgage payments in real terms. Likewise, a
country’s national debt repayments are reduced in real terms. A reduction in the debt burden
may stimulate consumer expenditure that, in turn, could lead to higher output and
employment.