11ECON Chapter 9 - Inflation

What is inflation

. the (persistent and) appreciable general increase in prices of products across an economy over a given time period

. can be translated as the decline of purchasing power over time

. in developed economies, moderate inflation is the norm

. the average price increases in Aus in the 3 decades prior to 2022 was ~3%

. RBA goal of price stability is to keep annual consumer price inflation between 2-3%

. peaked at 7.8% in Dec 2022

. 2022 average inflation for Aus was 6.6%

What is deflation

. the appreciable fall in the general level of prices across an economy over a given time period

What is disinflation

. the continued rise in the general level of prices across an economy over a given time period however at a lower rate than previously experienced

What is the most frequent measure of inflation in Australia

. the (quarterly) consumer price index (CPI)

What is the CPI

. an index that tracks the average price of products that consumers buy

. is a weighted basket of goods that tracks the price of thousands of goods compared to a base year’s prices, weighting each product according to how significant it is for a household budget

—> thus measures the changes in the prices of a basket of goods + services

Describe the basket of goods in relation to the CPI

. is a sample of a basket bought by Aus households from 1 month to the next

. items in basket have a wide range

. items are classified into 11 major groups, 33 subgroups and 87 classes

. the prices of ~900 000 separate items used for calculation

. not all items in basket are of equal importance

—> EG: Petrol is a more important indicator than price of electric cars in a household’s budget as it takes up a relatively larger portion of budget

. housing is important as represents a larger share of household spending

Identify the 11 groups in the CPI basket and their weights in 2022

. housing (22%)

. food and non-alcoholic beverages (17%)

. recreation and culture (11%)

. transport (11%)

. furnishings, household equipment and services (9%)

. alcohol and tobacco (8%)

. health (6%)

. insurance and financial services (6%)

. education (4%)

. clothing and footwear (3%)

. communication (2%)

Explain the changing weights of groups in the CPI (why different weights, how do they change)

. WHY: to account for differing importances, ABS attaches a weight to each item in the basket which reflects the relative importance of the item as measured by its share in the total consumption of households

. HOW: ABS reviews the weights of items in the basket in Jan every year to ensure they’re an accurate reflection of household spending patterns

—> weights are likely to rise or fall depending on changes in consumer preference + their reactions to price changes

—> EG: categories that fell during covid include recreation and culture + transport (due to lockdowns households were restricted from going out and spending)

What is the rate of inflation

How do you calculate the inflation rate

Describe the 4 steps the ABS uses to measure CPI and therefore work out inflation

Headline inflation

Explain 3 examples of recent price movements in the CPI (showing that these don’t move uniformly across the groups)

How does the ABS adjust headline inflation data to produce measures of inflation which more accurately reflect medium term trends?

Underlying inflation rates

Trimmed mean

Weighted median

Limitations of CPI data as an economic indicator

.

. condition: it’s an important indicator as it’s factored into all player’s actions in the economy, being a key consideration in decisions taken by firms (contract prices) and govs (welfare payments such as pensions + formulation of gov economic policy)

Identify 4 examples of other price indices the ABS publishes that report price changes in more specific goods and services

Explain Australia’s inflation trends over the past 50 years

Cost push inflation

What is cost push inflation related to

Is cost-push inflation often short or long term?

.

. condition: continual rise in wages and/or supply chain disruptions continually rise production costs leading to sticky inflation

Cost push inflation diagram and explanation

Tropical Cyclone Yasi: Changes + Effects

Australian East Coast Floods impact on prices

Cyclone Debbie impact on prices

NSW bushfires (2019-20) impact on prices

Organisation of Petroleum Exporting Countries (OPEC) impact on prices

Russia-Ukraine War impact on prices

Depreciation of the Aus dollar impact on prices

Australian wage growth impact on prices

Australian taxation impact on prices (GST introduction)

Demand Pull Inflation

Indicators that suggest that higher AD is usually during an expansion in the business cycle

How does demand pull inflation occur in producer markets?

Explain the 3 reasons why the early stage of the 2020 pandemic caused pent up demand in the economy

Demand Pull inflation diagram and explanation

Explain how inflation can feed off itself to result in longer periods of inflation

Explain the role of the RBA in controlling inflation in Australia

Explain the recent inflation experienced in Australia

What did the RBA conclude accounted for at least half of inflation over 2023?

Explain how the RBA changed the cash rate to deal with the covid pandemic inflationary pressures

Explain the purpose of increasing the cash rate

Identify how inflation + cash rate + economic growth have changed over the course of the pandemic and into the economic recovery

Identify the annual inflation rates from 2019 to 2024

Identify the 4 key labour market measures

. participation rate

. unemployment rate

. underemployment rate

. underutilisation rate