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INFLATION
Inflation is a general rise in the level of prices. Deflation is a decline in the level of all prices.
Inflation v. Deflation
Disinflation is a
slowing of price increases (inflation rate decreases)
Other terms
Hyperinflation is extreme,
rapid, and out of control inflation
Classic example in Germany: In 1922, the highest denomination was the 50 thousand Mark. By 1923, the highest denomination was 100 trillion Mark
That’s a 1.9 x 10^11% increase!!!
More terms
There are two major types of inflation. Demand-pull inflation is too many dollars, chasing
too few goods. Demand-pull inflation is caused by too much
aggregate demand
Types of Inflation
P
Q
D1D2
S
Cost-push inflation occurs when the cost of
producing goods rises; usually this is an increase in the cost of inputs.
This causes aggregate supply to decrease. This is more harmful to the economy because not
only does the price level go up, but the output or GDP declines.
Types of Inflation
P
Q
D
S1S2
There are several causes of inflation:
Wage-price spiral Government spending
Causes of Inflation
The wage-price spiral is when prices rise, causing workers to demand raises to pay the higher prices causing prices to increase again because the workers are paid more money;
This continues and we are in a wage-price spiral.
This is related to cost-push inflation because wages are paid for the labor input.
Causes of Inflation
Government spending too
much money causes deficit spending.
This is related to demand- pull inflation.
Causes of Inflation
Quantity theory of
money or inflation is what Monetarists believe.
The money supply should grow at a constant rate to equal the growth of the economy.
How the economy should work
dollar will buy less or
purchasing power decreases
Spending habits change
interest rates rise people won’t get
loans for big ticket items
Effects of Inflation
distribution of income is
altered lenders hurt and
borrowers are helped money paid back is worth
less
Effects of Inflation
reduces real wages of workers decreases the value of saving dollar is worth less
Effects of Inflation
Two ways to measure inflation are CPI and PPI. These are two types of cost of living
adjustment or “COLA’s.” They are automatic adjustments to wages
each year that takes into account the rate of inflation.
Measuring Inflation
Stagflation is a time of high unemployment
coupled with high inflation.
Stagflation