Inflation

I. Inflation - rise in general price levels
II. Measuring Inflation

• Inflation Rate - measures percentage increase of price level over time; a key indicator of economy's health
1. deflation - decline in general price level (alternatives)
2. disinflation - occurs when inflation rate itself declines (technology)
• Consumer Price Index (CPI) - measures inflation by tracking the yearly price of a fixed basket of goods and services
• indirect changes of cost of living and price level

III. Solving Inflation Problems

• Finding inflation rate using market basket data
• ((current year market basket data - base year market basket data) / base year market basket data) x 100
• Finding inflation rate using price indexes
• ((current year price index - base year price index) / base year price index) x 100
• Estimating inflation rate using the rule of 70
• used to calculate number of years it takes for price level to double at any given rate
• years needed to double inflation = 70 / annual inflation rate
• Determining real wages
• (nominal GDP / price level) x 100
• Finding real interest rate
1. Real interest rate
• cost of borrowing or lending money adjusted for expected inflation
•  nominal - inflation premium
• always a percentage (%)
2. Nominal interest rate
• unadjusted cost of borrowing or lending money

IV. Causes of Inflation

• Demand - pull inflation : caused by excess of demand over output that pulls prices upward
• Cost - push inflation : caused by rise in per unit production cost due to increase of resource cost

V. Effects of Inflation

• Anticipated v.s. Unanticipated inflation

Hurt by Inflation - 

• fixed income people
• lenders, creditors
• savers

Helped by Inflation -

• borrowers