Set 4 - Inflation

Inflation

General rise in overall price level.

Price level

Overall level of prices (measured by an index like CPI).

Purchasing power

What money can buy.

Relative price change

Price change of a specific good (not necessarily inflation).

CPI (Consumer Price Index)

Tracks prices of a representative consumer basket.

Base year

Year the price index is normalized to 100.

Deflation

General decrease in overall price level.

Substitution bias

CPI overstates cost of living because basket is fixed.

Core inflation

Inflation measure designed to capture underlying trend (often excludes volatile items).

Stagflation

Occurs when there is a recession and inflation.

CPI-median

BoC-preferred 'median' measure (50th percentile of CPI price changes).

PPI (Producer Price Index)

Prices of inputs to production.

GDP deflator

Price index for domestically produced goods/services.

Nominal variable

Measured in dollars of the time.

Real variable

Inflation-adjusted into base-year dollars.

Nominal interest rate

Stated interest rate.

Real interest rate

Inflation-adjusted interest rate.

Money illusion

Focusing on nominal dollars instead of real values.

Menu costs

Costs to firms of changing prices.

Shoe-leather costs

Costs of avoiding holding cash under inflation.

Hyperinflation

Extremely high inflation.

Unexpected inflation

Inflation − expected inflation.

Inflation expectations

Beliefs about future inflation.

Adaptive/anchored/rational/sticky expectations

Different ways expectations form.

Demand-pull inflation

Inflation from excess demand.

Cost-push inflation

Inflation from rising production costs / supply shocks.

Supply shock

Cost change that shifts inflation at a given output gap.

Wage-price spiral

Wages and prices reinforcing each other upward.

Phillips curve

Relationship between slack (output gap or unemployment) and unexpected inflation.
Output gap becomes more positive or more negative —> demand pull —> movement along the Phillips curve

Output gap doesn’t change/is at zero but inflation changes —> cost push — shift of the Phillips curve.

Exchange rate pass-through

Exchange rate changes affecting domestic prices.