National Income Accounting - Inflation

Question 1

What is inflation?

Answer 1

sustained rise in the general price level

Question 2

What are the effects of inflation?

Answer 2

Redistribution of income and wealth - from lenders to borrowers
Effect on he economic efficiency - because of causing price and price-signal distortions (especially through relative prices); money-use distortions; tax distortions, other costs
Development of wage-price inflationary spiral

Question 3

What is deflation?

Answer 3

sustained fall in the general price level

Question 4

What are the effects from Deflation?

Answer 4

Redistribution of wealth from borrowers to lenders
Reduction in inverstment
increase in the real interest rate as the inflation drops to below zero
Development of wage-price deflationary spiral
Fall in GPD and recession

Question 5

How to measure inflation

Answer 5

GDP Deflator

Consumer Price Index (CPI)

Question 6

What is GDP Deflator?

Answer 6

index measuring the change in the price level of the final goods/services produced in the economy
Pdef is GDP deflator
Pdef = (Nominal GDP / Real GDP)x100
Real GDP = Nominal GDP / Pdef

Question 7

Inflation Rate (GDP Deflator)

Answer 7

[(Pdef(t) - Pdef(t-1)) / Pdef(t-1)] * 100

Question 8

What is CPI?

Answer 8

Index measuring the changes in prices of final goods consumed in the economy.
measures the cost of lliving

Question 9

How is CPI calculated?

Answer 9

1. Calculate value of the consumption basket (quantity x price) for each year
2. Calculate the CPI index using the formula:
   CPI index = (value of consumption basktet/ value of consumption basket in the base year) x 100

Question 10

Inflation Rate (CPI)