2.5.3 Inflation

• What is inflation?

  Sustained increase in prices
• Inflation reduces the purchasing power of money.
• Demand-pull inflation occurs when aggregate demand exceeds aggregate supply
• What is the primary cause of cost-push inflation?

  Rising production costs
• The aggregate demand formula is AD = C + I + G + (X - M)</latex>.
• What does inflation do to the value of money?

  Reduces its purchasing power
• Demand-pull inflation is caused by excess aggregate demand
• Demand-pull inflation occurs when aggregate demand exceeds aggregate supply.
• Cost-push inflation arises from rising costs of production
• Steps leading to cost-push inflation:

  1️⃣ Rising production costs

  2️⃣ Firms increase prices to maintain profits

  3️⃣ General price level rises
• How does inflation affect consumers?

  Reduces purchasing power
• Inflation can lead to higher prices for businesses.
• For consumers, inflation reduces their purchasing power.
• What is the impact of inflation on businesses?

  Increases production costs
• Inflation can decrease the value of consumer savings.
• Inflation reduces purchasing power and potentially decreases the value of consumer savings.
• What is one effect of inflation on businesses?

  Increased production costs
• Inflation can lead to changes in investment, employment, and economic growth.
• If inflation is 2%, what is the effective value of £1000 savings after one year?

  £980
• The formula for calculating the future value of money considering inflation is $FV =$$PV (1 + r)^{ - n}$, where $PV$ is the present value.
• Inflation reduces the purchasing power of money.
• What is the definition of inflation?

  Sustained increase in prices
• Demand-pull inflation occurs when aggregate demand exceeds aggregate supply
• What is an example of a cost-push inflation cause?

  Rising oil prices
• Cost-push inflation arises from excessive aggregate demand.

  False
• Cost-push inflation reduces aggregate supply
• Match the type of inflation with its description:

  Cost-Push Inflation ↔️ Rising production costs

  Demand-Pull Inflation ↔️ Excessive aggregate demand
• What are the two primary indices used to measure inflation?

  CPI and RPI
• The CPI uses a geometric mean, making it less sensitive to outliers
• The RPI is calculated as the arithmetic mean of price changes.
• How does inflation affect consumers?

  Reduced purchasing power
• The formula for the future value of money considering inflation is $FV =$$PV (1 + r)^{ - n}$, where $r$ is the inflation rate
• What is an example of a monetary policy to control inflation?

  Raising interest rates
• Fiscal policy lowers demand-pull inflation by reducing aggregate demand
• Reducing inflation always leads to higher unemployment.
• What is one challenge in managing inflation related to economic growth?

  Slowed economic growth
• Inaccurate inflation forecasts make policy decisions more difficult
• External shocks, such as oil price spikes, can unexpectedly affect inflation.