Microeconomics Topic 1: The Economic Problem Inflation as a way to measure performance of developed and developing countries

Microeconomics Topic 1: The Economic Problem 2.1.2 Unit content Students should be able to: Define inflation, deflation and disinflation Explain how inflation is calculated in the UK (CPI) and the limitations Analyze the RPI as an alternative to CPI Assess the causes of inflation (demand pull, cost push and growth of the money supply) Evaluate the effects of inflation on consumers, firms, the government and workers

Microeconomics Topic 1: The Economic Problem Definitions What is inflation? Inflation is the p_________ i_________ in the level of p________ over time What does the annual rate of inflation show? It shows how much h_______ or l_______ prices are compared with the same month a y______ earlier. It indicates changes to our ________________ What does it mean if the inflation rate is 2% in August? This means that prices are _% higher than they were a _________________

How is inflation measured? Microeconomics Topic 1: The Economic Problem How is inflation measured? Inflation is measured by the annual change in the Retail Price Index (RPI) and the Consumer Price Index (CPI). The RPI is a basket of goods and services consumed by most households. The CPI is a similar (European) measure which excludes ___________ costs such as mortgage payments and council tax. We mostly use the CPI now (and this is what Edexcel assume!)

How is inflation calculated? Microeconomics Topic 1: The Economic Problem How is inflation calculated? Inflation is calculated by the Office for National Statistics (ONS), they look at the changes in the prices of ____ goods and services (March 2015) in _______ different areas across the UK (& online). This is known as the basket of goods and is updated annually to reflect changes in the things we buy. Items are weighted to reflect how much we spend on them (i.e. to reflect their relative importance) e.g. we spend more on petrol than postage stamps so fuel has a weight of ___% in the RPI.

Examples of goods in the basket Microeconomics Topic 1: The Economic Problem Examples of goods in the basket The basket of goods is updated annually to reflect changes in the things we buy. Hence the recent inclusion of ___________ and the exclusion of _______________ What are weaknesses of the measures?

Current figures: What is inflation in the UK at the moment? Microeconomics Topic 1: The Economic Problem Current figures: What is inflation in the UK at the moment? CPI rose to

Microeconomics Topic 1: The Economic Problem Examples 1981 versus 2011 From 1981 to 2011 inflation has risen 209%. If inflation was the only factor that changed prices, how much would the following cost? Product 1981 prices Inflation 2011 prices Actual 2011 prices Big Mac 89p £2.49 Glastonbury ticket £8 £195 Coca cola (1.25 litres) 59p £1.50 Cinema ticket £1.75 £9.50 HINT: If inflation was 9% we would multiply by 1.09 since 1 + 9% = 1 + 0.09 = 1.09

Inflation and the government (see 2.6) Microeconomics Topic 1: The Economic Problem Inflation and the government (see 2.6) In the UK the government has set a target of _____ % for inflation In _____, ______________gave the Bank of England responsibility to ensure the target is met.

Microeconomics Topic 1: The Economic Problem What causes inflation? There are three causes: cost push demand pull growth of the money supply

Microeconomics Topic 1: The Economic Problem Why might costs rise?

Microeconomics Topic 1: The Economic Problem Why might demand rise?

Microeconomics Topic 1: The Economic Problem High inflation What happens to prices during a period of high inflation? Who benefits from high inflation? Why?

Microeconomics Topic 1: The Economic Problem Deflation What is deflation? Benefits? Why is deflation a problem?

Microeconomics Topic 1: The Economic Problem What is disinflation? Disinflation is a __________ in the rate of inflation.

Why does the government want low inflation? Microeconomics Topic 1: The Economic Problem Why does the government want low inflation? June 2010 exam question and May 2014

Other measures of inflation - RPIX Microeconomics Topic 1: The Economic Problem Other measures of inflation - RPIX We know that RPI measures the average price of a typical ‘basket of goods’ bought by the average household. RPIX is similar to RPI but it excludes mortgage payments. This is particularly useful if house prices are volatile (changing rapidly).

Interpreting index numbers An index number shows the rate of change in price, quantity or value of an item or group of items over a period of time An index number is a ___________ which gives the value or size of a quantity relative to a standard number, or base.