Inflation: An Overview - Section 3, Module 14

hyperinflation - very high and accelerating rates of inflation

misconception about inflation - it makes everyone poorer

• real wage - the wage rate divided by the price level (to adjust for inflation/deflation) doesn’t change

  • income and prices are both reduced

• real income - income divided bye the price level to adjust for the effects of inflation or deflation

  • the level of prices does not matter

inflation rate - the percentage increase in the overall level of prices per year

• calculation:

high rates of inflation impose economic costs: shoe-leather costs, menu costs, and unit of account costs

shoe-leather costs - increased costs of transactions caused by inflation

• happens because during high inflation, people are discouraged from holding money beacause their purchasing power steadily decreases as the overall prices increases

menu costs - the real cost of changing a listed price

• during inflation, firms have to change prices more often, which means higher prices for the economy as a whole

unit of account role of money - the role of the dollar as a basis of contracts/calculations

• unit of account costs - costs arising form the way inflation makes money a less realiable unit of measurement

• super important in taxes bc inflation can distort the measures of income on which a tax is collected

inflation can hurt some and hurt others

• interest rate - percentage of the loan amount that the borrower must pay to the lended in addition to the repayment of the loan

• nominal interest rate - the interest rate that is actually paid for a loan, unadjusted for the effects of inflation

• real interest rate - nominal interest rate ajdusted for inflation (subtract the inflation rate from the nominal interest rate)

• IF INFLATION IS HIGHER THAN EXPECTED - borrowers benefit because they get to pay the money back in cheaper dollars

• IF INFLATION IS LOWER THAN EXPECTED - lenders benefit because buyers have to pay the loans back with funds that have a higehr real value

disinflation - bringing the inflation rate down → very difficult and costly once a higher inflation rate has become established in a country

• sometimes the only way to end inflation is through disinflation and creating a temporary depression