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Inflation - PowerPoint PPT Presentation

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Inflation. DEFLATION = opposite to inflation, occurs when the general level of prices is falling DISINFLATION = describe the process of reducing a nation’s rate of inflation STAGFLATION = high inflation in periods of high unemployment

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General terms

DEFLATION = opposite to inflation, occurs when the general level of prices is falling

DISINFLATION = describe the process of reducing a nation’s rate of inflation

STAGFLATION = high inflation in periods of high unemployment

REVALFLATION = impact of inflation, where the result is an inner valorisation of exchange rate

Rate of inflation

General terms

Price indexes

  • Consumer price index (CPI) - each item is assigned a fixed weight proportional to its relative importance in consumer expenditure budget

  • Producer price index (PPI) - measures the level of prices at the wholesale or producer stage

  • GDP deflator – the ratio of nominal GDP to real GDP è can beinterpreted as a comprehensive price index

Numerical example
Numerical Example

  • Calculate the consumer price index and the rate of inflation for 2006.

C ategories of inflation according to its pace rate
Categories of Inflation according to its pace/rate:

  • MODERATE INFLATION – occurs when prices are rising slowly (we might classify this as single-digit annual inflation rates è0-10 % per year)

  • GALLOPING INFLATION - occurs when prices start rising at double-or-triple digit rates (20, 100 % a year)

  • HYPERINFLATION –the extraordinary price increase (at annual rate of 100 % or more prevailing in a nation for at least one year)

Inflation according to

a) its impact on individual commodity:

Balanced – leaves relative prices unchanged èall prices are rising at the same percentage point each year èit doesn’t cause a change in consumption structure

Unbalanced – some prices are increasing faster than the general price level èthere can be seen an expressive impact on the demand and consumption structure

b) predictability



Inertial inflation = tends to stay at its prior rate until shocked by economic events.

Inflation according to:

Impact of inflation cost of inflation
IMPACT OF INFLATION „cost of inflation“

  • Redistribution of income and wealth

  • Social impacts

  • Impact on balance of economy


  • èthere is no effect on real output, efficiency, or income distribution of an inflation that is both balanced and anticipated

  • ègenerally, the economic impact of an unanticipated moderate inflation is mainly on the distribution of income and wealth, and less on the efficiency of the system

  • èthe mildest impact will be found when inflation is at a low rate – small, anticipated and balanced

  • èmajor social and economic impacts arise for galloping inflation or hyperinflation

Causes of i nflations


- the essence of demand-pull inflation is too much spending beating against a limited supply


first appeared during the 1930’s and the 1940’s

inflation caused by continual decrease in aggregate supply

Causes of Inflations

The phillips curve

  • the Phillips curve depicts the relationship between unemployment and inflation, both in percent


  • a nation could buy a lower level of unemployment if it were willing to pay the price of a higher rate of inflation

The shifting phillips curve
The shifting Phillips curve

„Boom cycle“

  • Period 1: unemployment is at the natural rate; no demand or supply surprises; economy is on the lower short-run Phillips curve

  • Period 2: rapid increase in output during an economic expansion (f. e. as a result of expansion policy) lowers the unemployment rate èwages and prices begin to accelerate èthe economy moves up and to the left along the short run PC

  • Period 3: Firms and workers begin to expect higher inflation è higher expected rate of inflation gets incorporated into wage and price decisionsèthe short-run PC shifts upward

  • Period 4: unemployment rate returns to the natural rate; contraction in economic activity brings output back to its potential.

The vertical long run phillips curve
The vertical Long-Run Phillips curve

  • When the unemployment rate diverges from the NRU the inflation tends to change

  • According to the natural rate theory, the only level of unemployment consistent with a stable inflation rate is the natural rate of unemployment the long-run PC is a vertical line rising straight up at the NRU

Two important implications for economic policy

1) there is a minimum level of unemployment that an economy can sustain in the long run;

2) the nation can temporarily enjoy low rate of unemployment, but at the expense of rising inflation


Temporary increase in unemployment above the NRU

Income policies (wage- price control or voluntary guidelines)

Two important implications for economic policy:

1. Calculate the CPI can sustain in the long run; and IPD, if following amount of products was consumed in economy: