Low and Stable Inflation Rate
Measuring Inflation and Deflation
Consumer Price index (CPI)
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Measure of the cost of living for the typical household, and compares the value of a basket of goods and services in one year with the value of the same basket in a base year
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Price index for a specific year = value of basket in a specific year / value of same basket in base year * 100
Consequences of inflation
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High rate of inflation will cause serious issue to the whole economy
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It will cause a redistribution effect, which redistributes income away from certain groups towards another group in the economy.
Important concept: nominal income, real income, and purchasing power
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A cloth is costing you $50 in 2019, and $100 in 2020
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Let’s suppose that you have $200, and a cloth will cost you $50 in 2019. Now, your nominal income is $200, and the 4 clothes that you are able to buy is your real income.
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However, in 2020, the general price of clothes has risen to 100. Although you still have $200 in total (the same nominal income), but now you are only able to buy 2 clothes (real income). Through this relationship we can find out that during the inflation, the real income and purchasing power will decrease.
*During inflation, real income decrease
Groups who lose from the inflation
Groups who gain from the inflation
Other consequences
Demand Pull and Cost Push inflation
Consequence of deflation
*During deflation, the real income (purchasing power) will increase
The Phillips Curve (HL)
