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Macroeconomics
by: Shadi A. Razak 1
Inflation and Deflation
Objectives
• Understand what inflation and deflation
means
• Explain how we measure inflation
• Discuss the causes and consequences of
inflation and deflation
• Explain governments and Firms behaviour
during inflation and deflation
by: Shadi A. Razak 2
Structure
• Inflation
• Consumer Price Index
• Causes of Inflation
• Impacts of Inflation
• Deflation
by: Shadi A. Razak 3
Tale of two economies
by: Shadi A. Razak 4
INFLATION
Introduction
• Inflation is a sustained increase in the cost of
living or the general price level leading to fall
in purchasing power
• The annual percentage change in consumer
prices is used to measure inflation
• Central Banks are sought to develop policies to
control inflation rate
by: Shadi A. Razak 5
INFLATION
by: Shadi A. Razak 6
INFLATION
Overview
by: Shadi A. Razak 7
INFLATIONCONSUMER PRICE INDEX
• Consumer Price Index (CPI) is used to measure
inflation
• CPI consist of a representative basket of goods
and services used, each item is weighted in
accordance to its importance in people
expenditure
• Weights are multiplied by price changes before
the weighted changes are totalled to measure
inflation
by: Shadi A. Razak 8
INFLATIONCONSUMER PRICE INDEX
Limitations
by: Shadi A. Razak 9
INFLATIONCONSUMER PRICE INDEX
• CPI not fully representative
• Spending patterns
• Housing cost
• Changing quality of goods and services
• New products and services
Main Causes
by: Shadi A. Razak 10
INFLATIONCONSUMER PRICE INDEX
• Demand Pull Inflation
• Cost Pus Inflation
• Administrated Prices
CAUSES OF INFLATION
Main Causes
by: Shadi A. Razak 11
INFLATIONCONSUMER PRICE INDEX
• Demand Pull Inflation
– Caused by excess aggregated demand
– Linked to money and credit boom
– Economy experiencing an inelastic aggregated
supply
– Aggregated demand is bigger than the gross
domestic production
CAUSES OF INFLATION
Demand Pull Inflation
by: Shadi A. Razak 12
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATION
Sourcefromtutor2u
Main Causes
by: Shadi A. Razak 13
INFLATIONCONSUMER PRICE INDEX
• Cost Push Inflation
– Rising salaries
– Increase in domestic and overseas raw materials
cost
– Fall in exchange rate
– Increase in products and components import cost
CAUSES OF INFLATION
Cost Push Inflation
by: Shadi A. Razak 14
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATION
Sourcefromtutor2u
Main Causes
by: Shadi A. Razak 15
INFLATIONCONSUMER PRICE INDEX
• Administrated Prices
– Changes in regulated prices
– Changes in subsidies and taxes
CAUSES OF INFLATION
Internal Causes
by: Shadi A. Razak 16
INFLATIONCONSUMER PRICE INDEX
• Higher labour cost
• Rise in business taxes
• Boom in credit supply
• Gush in property prices
CAUSES OF INFLATION
External Causes
by: Shadi A. Razak 17
INFLATIONCONSUMER PRICE INDEX
• Depreciation in exchange rate
• Increase in Oil and gas prices
• High inflation in other countries
• Global inflations in commodity prices
CAUSES OF INFLATION
Inflation Difficult to Forecast
by: Shadi A. Razak 18
INFLATIONCONSUMER PRICE INDEX
• Unpredictable global energy prices
• Changes in currency value
• Changes in government taxes
• Uncertain AD growth
• Unpredictable food prices
CAUSES OF INFLATION
Inflation Difficult to Forecast
by: Shadi A. Razak 19
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATION
Source from Bank of England
Impact of High Inflation
by: Shadi A. Razak 20
INFLATIONCONSUMER PRICE INDEX
• Inequality
• Falling real incomes
• Negative real interest rates
• Increasing cost of borrowing
• Wages inflation
• Reduced competitive advantage
CAUSES OF INFLATIONCONSEQUENCES OF INFLATION
Impacts of High Inflation
by: Shadi A. Razak 21
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATION
Inflation can lead to changes in real incomes wealth
distribution
Winners
• Workers with strong
wages
• Debtors with negative
real interest rates
• Producers when price
rise faster than cost
Losers
• Retired on fixed income
• Leaders with negative
real interest rates
• Workers on low paid job
• Savers with negative real
returns
Impact of High Inflation
by: Shadi A. Razak 22
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATION
Inflation
Tighten the
country fiscal
policy
Change the
monetary
policy
Affect supply
side policies
Change public
sector
controls
Change
administrated
prices
by: Shadi A. Razak 23
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATION
Sourcefromtutor2u
Price Deflation
by: Shadi A. Razak 24
INFLATIONCONSUMER PRICE INDEX
• Deflation is a insistent fall in the general price
level of goods and services
• Deflation shows as a negative inflation rate
CAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATION
Causes of Deflation
by: Shadi A. Razak 25
INFLATIONCONSUMER PRICE INDEX
• Deflation can be caused from:
– Demand side
• Deep fall in AD leading to a persistent recession
• Large negative output gap
– Supply side
• Improved productivity
• Technology advance
• Exchange rate appreciation
• Very law cost labour
CAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Causes of Deflation
by: Shadi A. Razak 26
Source from tutor2u
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Consequences of Deflation
by: Shadi A. Razak 27
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Avoid
deflation
Low interest
rate &
Cheaper loans
Expand credit
supply in
banking
system
Fiscal
Stimulation
Increase
government
spending
Stimulate
demand
Increase taxes
on saving
Tale of Japan
by: Shadi A. Razak 28
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Tale of Japan
by: Shadi A. Razak 29
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Tale of Japan
by: Shadi A. Razak 30
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Tale of Japan
by: Shadi A. Razak 31
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Tale of Japan
by: Shadi A. Razak 32
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Tale of Japan
by: Shadi A. Razak 33
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
Summary
by: Shadi A. Razak 34
• Explained what is meant by ‘Inflation’ and ’
Deflation’
• Differentiated between internal and external
causes for inflation and deflation
• Discussed how inflation is measures and its
limits
• Discussed the possible consequences of
inflation and deflation
INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES

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Inflation & Deflation

  • 1. Macroeconomics by: Shadi A. Razak 1 Inflation and Deflation
  • 2. Objectives • Understand what inflation and deflation means • Explain how we measure inflation • Discuss the causes and consequences of inflation and deflation • Explain governments and Firms behaviour during inflation and deflation by: Shadi A. Razak 2
  • 3. Structure • Inflation • Consumer Price Index • Causes of Inflation • Impacts of Inflation • Deflation by: Shadi A. Razak 3
  • 4. Tale of two economies by: Shadi A. Razak 4 INFLATION
  • 5. Introduction • Inflation is a sustained increase in the cost of living or the general price level leading to fall in purchasing power • The annual percentage change in consumer prices is used to measure inflation • Central Banks are sought to develop policies to control inflation rate by: Shadi A. Razak 5 INFLATION
  • 6. by: Shadi A. Razak 6 INFLATION
  • 7. Overview by: Shadi A. Razak 7 INFLATIONCONSUMER PRICE INDEX • Consumer Price Index (CPI) is used to measure inflation • CPI consist of a representative basket of goods and services used, each item is weighted in accordance to its importance in people expenditure • Weights are multiplied by price changes before the weighted changes are totalled to measure inflation
  • 8. by: Shadi A. Razak 8 INFLATIONCONSUMER PRICE INDEX
  • 9. Limitations by: Shadi A. Razak 9 INFLATIONCONSUMER PRICE INDEX • CPI not fully representative • Spending patterns • Housing cost • Changing quality of goods and services • New products and services
  • 10. Main Causes by: Shadi A. Razak 10 INFLATIONCONSUMER PRICE INDEX • Demand Pull Inflation • Cost Pus Inflation • Administrated Prices CAUSES OF INFLATION
  • 11. Main Causes by: Shadi A. Razak 11 INFLATIONCONSUMER PRICE INDEX • Demand Pull Inflation – Caused by excess aggregated demand – Linked to money and credit boom – Economy experiencing an inelastic aggregated supply – Aggregated demand is bigger than the gross domestic production CAUSES OF INFLATION
  • 12. Demand Pull Inflation by: Shadi A. Razak 12 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATION Sourcefromtutor2u
  • 13. Main Causes by: Shadi A. Razak 13 INFLATIONCONSUMER PRICE INDEX • Cost Push Inflation – Rising salaries – Increase in domestic and overseas raw materials cost – Fall in exchange rate – Increase in products and components import cost CAUSES OF INFLATION
  • 14. Cost Push Inflation by: Shadi A. Razak 14 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATION Sourcefromtutor2u
  • 15. Main Causes by: Shadi A. Razak 15 INFLATIONCONSUMER PRICE INDEX • Administrated Prices – Changes in regulated prices – Changes in subsidies and taxes CAUSES OF INFLATION
  • 16. Internal Causes by: Shadi A. Razak 16 INFLATIONCONSUMER PRICE INDEX • Higher labour cost • Rise in business taxes • Boom in credit supply • Gush in property prices CAUSES OF INFLATION
  • 17. External Causes by: Shadi A. Razak 17 INFLATIONCONSUMER PRICE INDEX • Depreciation in exchange rate • Increase in Oil and gas prices • High inflation in other countries • Global inflations in commodity prices CAUSES OF INFLATION
  • 18. Inflation Difficult to Forecast by: Shadi A. Razak 18 INFLATIONCONSUMER PRICE INDEX • Unpredictable global energy prices • Changes in currency value • Changes in government taxes • Uncertain AD growth • Unpredictable food prices CAUSES OF INFLATION
  • 19. Inflation Difficult to Forecast by: Shadi A. Razak 19 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATION Source from Bank of England
  • 20. Impact of High Inflation by: Shadi A. Razak 20 INFLATIONCONSUMER PRICE INDEX • Inequality • Falling real incomes • Negative real interest rates • Increasing cost of borrowing • Wages inflation • Reduced competitive advantage CAUSES OF INFLATIONCONSEQUENCES OF INFLATION
  • 21. Impacts of High Inflation by: Shadi A. Razak 21 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATION Inflation can lead to changes in real incomes wealth distribution Winners • Workers with strong wages • Debtors with negative real interest rates • Producers when price rise faster than cost Losers • Retired on fixed income • Leaders with negative real interest rates • Workers on low paid job • Savers with negative real returns
  • 22. Impact of High Inflation by: Shadi A. Razak 22 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATION Inflation Tighten the country fiscal policy Change the monetary policy Affect supply side policies Change public sector controls Change administrated prices
  • 23. by: Shadi A. Razak 23 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATION Sourcefromtutor2u
  • 24. Price Deflation by: Shadi A. Razak 24 INFLATIONCONSUMER PRICE INDEX • Deflation is a insistent fall in the general price level of goods and services • Deflation shows as a negative inflation rate CAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATION
  • 25. Causes of Deflation by: Shadi A. Razak 25 INFLATIONCONSUMER PRICE INDEX • Deflation can be caused from: – Demand side • Deep fall in AD leading to a persistent recession • Large negative output gap – Supply side • Improved productivity • Technology advance • Exchange rate appreciation • Very law cost labour CAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 26. Causes of Deflation by: Shadi A. Razak 26 Source from tutor2u INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 27. Consequences of Deflation by: Shadi A. Razak 27 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES Avoid deflation Low interest rate & Cheaper loans Expand credit supply in banking system Fiscal Stimulation Increase government spending Stimulate demand Increase taxes on saving
  • 28. Tale of Japan by: Shadi A. Razak 28 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 29. Tale of Japan by: Shadi A. Razak 29 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 30. Tale of Japan by: Shadi A. Razak 30 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 31. Tale of Japan by: Shadi A. Razak 31 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 32. Tale of Japan by: Shadi A. Razak 32 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 33. Tale of Japan by: Shadi A. Razak 33 INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES
  • 34. Summary by: Shadi A. Razak 34 • Explained what is meant by ‘Inflation’ and ’ Deflation’ • Differentiated between internal and external causes for inflation and deflation • Discussed how inflation is measures and its limits • Discussed the possible consequences of inflation and deflation INFLATIONCONSUMER PRICE INDEXCAUSES OF INFLATIONCONSEQUENCES OF INFLATIONDEFLATIONCAUSES & CONSEQUENCES