Ch. 32 Monetary Growth and Inflation Review

These flashcards cover key concepts, definitions, and implications pertaining to monetary policy, inflation, and economic theories discussed in Chapter 31.

What are the distributional effects of unanticipated inflation?

Borrowers win, lenders lose; workers may be impacted differently than firms; fixed income recipients may struggle.

What is the purpose of Automatic Cost-Of-Living Adjustments (COLA)?

To ensure that the purchasing power of Social Security and SSI benefits is not eroded by inflation.

How is the COLA calculated?

Based on the percentage increase in the Consumer Price Index for Urban Wage Earners and Clerical Workers from one year to the next.

What is the CPI-W?

Consumer Price Index for Urban Wage Earners and Clerical Workers, determined by the Bureau of Labor Statistics.

When did automatic annual COLAs begin?

In 1975 as part of the 1972 Social Security Amendments.

What are Rational Expectations in terms of inflation?

Forward-looking expectations where all available information is incorporated into economic decisions.

Who is associated with Rational Expectations?

Robert Lucas.

What are Adaptive Expectations?

Backward-looking expectations where people base decisions on past experiences.

Who is associated with Adaptive Expectations?

Milton Friedman.

What is the formula linking productivity, inflation, and wages?

Inflation = % change in wages - % change in productivity.

What must wage increases be justified by to avoid inflation?

Productivity growth.

What is deflation?

A decrease in the general price level of goods and services.

What is the negative impact of deflation on the economy?

It can be good for individuals but harmful for the overall economy.

What does the Quantity Theory of Money state?

MV = PQ, where M is the money supply, V is the velocity of money, P is the price level, and Q is real GDP.

What do Quantity Theorists believe about causation?

Causation goes from money to prices.

Who is a notable Quantity Theorist?

Milton Friedman.

What is the Institutionalists' View of Inflation?

Causation runs from changes in prices to changes in money supply.

What is the insider-outsider model?

Insiders control wages and prices, influencing how the Fed accommodates changes.

What is Demand-Pull inflation?

A rightward shift of Aggregate Demand (AD).

What is Cost-Push inflation?

A leftward shift of Aggregate Supply (AS).

What would happen in an economy facing high inflation?

Purchasing power decreases, affecting savings and fixed incomes.

What economic factor can lead to increased inflation?

A surge in money supply without a corresponding increase in goods/services.

What is the effect of inflation on borrowers?

Borrowers benefit from inflation as they repay loans with less valuable money.

Who typically loses from inflation?

Lenders, as the value of repayments decreases.

What is one way firms might respond to inflation?

By adjusting wages to keep up with increasing prices.

What is a Consumer Price Index?

A measure that examines weighted average of prices of a basket of consumer goods/services.

How can inflation impact Social Security benefits?

If inflation rises, the COLA may increase benefits to maintain purchasing power.

What economic concept relates to the turnover rate of money?

Velocity of money.

What assumptions do Rational Expectations make about mistakes?

People do not repeat the same mistakes in economic decisions.

Define 'inflation'.

The rate at which the general level of prices for goods and services rises.

What happens to purchasing power during inflation?

It decreases.

Why does Congress review COLAs?

To ensure benefits keep pace with inflation.

What can cause a rightward shift in Aggregate Demand?

Increased consumer spending or investment.

What can cause a leftward shift in Aggregate Supply?

Increased production costs.

What does 'velocity of money' indicate?

How quickly money moves through the economy.

Why are COLAs automatically adjusted through legislation?

To protect fixed income recipients from inflation erosion.

What is a sign of a healthy economic growth?

An increase in productivity alongside wage growth.

How did Milton Friedman view inflation?

As primarily a monetary phenomenon.

What role does the Bureau of Labor Statistics play in the economy?

Determines the CPI-W used for COLA calculations.

What historic legislation included the COLA provisions?

1972 Social Security Amendments.

What did the automatic COLA provision change?

Benefits were adjusted automatically rather than through special legislation.

What might happen if wages rise without corresponding productivity growth?

It could lead to inflation.

Summarize the impact of inflation on firms.

Firms may have to raise prices or adjust wages to maintain profitability.