3.  Inflation:  General increase in the general price level throughout an economy Doesn’t mean the price of every product is increasing Nor does a price increase in one or a few products mean that there is inflation

4.  Measurement of Inflation  Consumer Price Index- A measure of the average change over time in the relative prices paid by urban consumers for a market basket of goods and services. CPI Price of the Most Recent Market Basket in the Particular Year Price of the Same Market Basket in 1982-1984 = x 100 Rate of Inflation = Current CPI –Past CPI Past CPI X100

5. YearMarJunSepDecAnnualIR 2003184.20183.70185.20184.30184.002.2% 2004187.40189.70189.90190.30188.902.7% 2005193.30194.50198.80196.80195.303.3% 2006199.80202.90 201.80201.603.2% 2007205.35208.35208.49210.04207.342.8% 2008213.53218.82218.78210.23215.304% 2009212.71215.69215.97215.95214.54-.04% 2010217.63217.97219.63222.08218.061.6% 2011224.5226.22226.95228.35224.943.2% 2012228.77230.08231.25229.62.07% The New Millennium

6. Inflation Annual Inflation Rates in the United States, 1960-2005 Inflation Rate (percent) Source: Bureau of Labor Statistics

7. Inflation Source: Bureau of Labor Statistics U.S. Germany Italy Japan France 199520002005 Inflation Rate (percent) Inflation Rates in Five Industrial Nations, 1995-2005 GLOBAL PERSPECTIVE

8.  Demand-Pull Inflation  Demand-Pull Inflation:  Inflation caused by consumer demand for goods and services increasing faster than the ability of the economy to produce more goods and services. Think about an auction…

9.  Cost-Push Inflation  Cost-Push Inflation:  Occurs if business supplies less of the goods and services because of increasing costs…causing the price level to rise  The increasing costs could result from higher costs of inputs or because businesses expect prices to go up and so produce less currently  Soaring Food Prices and Global Warming - NYTimes.com Soaring Food Prices and Global Warming - NYTimes.com

10.  The Value of the Dollar  Inflation reduces the purchasing power of the dollar…as price level rises each dollar can buy less  Lenders (Banks)  Money loaned out will have less real value than the money that was originally provided  Most banks compensate for inflation with a higher interest rate

11.  Savers  Households that have been saving money will see the real value of their savings decrease  People on Fixed Incomes  Cost of living will increase, however, their income level will not…Causes a decrease in their STANDARD OF LIVING  Some people on fixed incomes have a COLA Cost of Living Adjustment (Social Security)

12.  Flexible Income Receivers  COLA flexes income automatically to adjust for inflation Unanticipated inflation may cause an increase in income even when prices may fall/adjust  Debtors  Principal and Interest are paid back with eroded dollar value thus Banks see decrease in their purchasing power  Federal Government pays back debt with dollars that have less purchasing power with inflated tax revenue

13.  Which is going to be worse?  UNANTICIPATED  UNANTICIPATED Inflation creates problems for the economy because…  The economy is dependent on prices to coordinate resources efficiently  When there is uncertainty about inflation, it becomes more difficult and costly to plan  This creates a less efficient economy

14.  Expecting inflation is a self-fulfilling prophesy…WHY?  When consumers expect prices to go up, they buy more goods (Demand Shifts Right)…thus creating Demand Pull Inflation  When suppliers expect prices to go up, they will decrease supply (Supply Shifts Left)… thus creating Cost-Push Inflation