inflation sfls cpi

Inflation

(Part 1 – Vocab &CPI)

2.) CPI – measuring Inflation

Inflation:

4.) Causes of Inflation

1.) Inflation Vocabulary

5.) Consequences of Inflation

3.) Problems of CPI

Part 1

Part 2

Part 3

- a sustained increase in the cost of living or the general price level leading to a fall in the purchasing power of money.

Inflation

- is measured by the annual percentage change in consumer prices.

Rate of Inflation

***Please remember that a fall in the rate of inflation is not the same thing as a fall in prices!


- when the rate of inflation becomes negative.

Deflation

- the value of money becomes worthless.Hyperinflation


Stagflation - persistent high inflation combined with high unemployment and stagnant demand in a country's economy.

Stagflation was a big problem in the US and other western

countries in the 1970s

It was mostly caused my gas and raw material prices were high causing high prices and

high unemployment.

1920’s Germany had this hyperinflation problem where the money basically became worthless

caused by a bad economic policy after losing world war one.

{1946 Hungry Hyperinflation At the height of the

inflation, prices were rising at the rate of 150,000% PER DAY. By then, the government had stopped collecting taxes altogether because even a single day’s delay in collecting taxes wiped out the value of the money the government collected.

Zimbabwe津巴布韦

and its famous inflation通货膨胀

Also this country…

And more recently similar problems in

this country.


Inflation:




3.) Problems of CPI

- measures the typical consumer’s cost of living with only the typical things that are purchased.

- the main way to measure inflation.

Consumer Price Index (CPI)


How the CPI Is Calculated:

- Government surveys consumers to determine what’s in the typical consumer’s “shopping basket.”


1.) Fix the “basket”

- Government then collects data on the prices of all the goods in the basket.

2.) Find the prices

3.) Compute the basket’s cost

-Use the prices to compute the total cost of the basket.


- The CPI in any year equals:


4.) Choose a base year and compute the index

100 xcost of basket in current year

cost of basket in base year

- The percentage change in the CPI from the preceding period:

6.) Compute the inflation rate

CPI this year – CPI last year

CPI last year

Inflation

ratex 100%=

5.) ?

CPI basket:

{4 比萨, 10 饺子}

120元 x 4 + 3元 x 10 = 510

110元 x 4 + 2.5元 x 10 = 465

100元 x 4 + 2元 x 10 = 440

cost of basket

3.00元

2.50元

2.00元

price of

饺子

120元2013

110元2012

100元2011

price of

比萨year

Compute CPI in each year

2011: 100 x (440/440) = 100

2012: 100 x (465/440) = 106

2013: 100 x (510/440) = 116

using 2011 base year:

CPI – example…

x4

x10

Inflation rate:

6%106 – 100

100x 100%=

9.4%116 – 106

106x 100%=

CPI basket:

{10 kg beer, 20 kg coffee}

The CPI basket cost $1050

in 2009, the base year.

A. Compute the CPI in 2010.

B. What was the CPI inflation rate from 2010-2011?

price of

beer

price of

coffee

2009 $35 $35

2010 $40 $40

2011 $65 $50

CPI – another example…

x10

x20

Questions to try:

CPI basket:




price of

beer

price of

coffee

2009 $35 $35

2010 $40 $40

2011 $65 $50


x10

x20

A. Compute the CPI in 2010:

Cost of CPI basket in 2010

= ($40 x 10) + ($40 x 20) = $1200

CPI in 2010 = 100 x ($1200/$1050) = 114

CPI basket:




price of

beer

price of

coffee

2009 $35 $35

2010 $40 $40

2011 $65 $50


x10

x20

B. What was the inflation rate from 2010-2011?

Cost of CPI basket in 2011

= ($65 x 10) + ($50 x 20) = $1650

CPI in 2011 = 100 x ($1650/$1050) = 157

CPI inflation rate = (157 – 114)/114 = 38%


Inflation:




3.) Problems of CPI

2.1) Weighting

2.1) Weighting CPI



- in which each item influences the index in proportion to its price per it’s share.

Weighted Index

AS exams love to mention this, so please

don’t forget it!

Different items in the basket will

proportional be counted as worth more or less then other items.

Types of G &S

Proportion

spend by

households

Average price of

goods

Weighted average

price

Clothing 25 $40 0.25 x $40 = $10

Entertainment 15 $60 0.15 x $60 = 9

Food 40 $5 0.40 x $5 = $2

Travel 20 $20 0.20 x 20 = $4

2.1) Weighting CPI

Total = 100% Price of basket = $25

The proportion of total spending on each category is used to weigh the average prices of each good to find their weighted averages.

Let’s call this the base year…

Base Year 5.) Attach the weights

Types of G &S

Proportion

spend by

households

Average price of

goods

Weighted average

price

Clothing 25 $44 0.25 x $44 = $11


Food 50 $8 0.50 x $8 = $4

Travel 15 $20 0.15 x 20 = $3

2.1) Weighting CPI


Prices have changed, but so has the weighted proportion of some items.

Current Year

100 xWeighted average prices in current year

Weighted average prices in base year

$27

$25CPI = 108=

5.) Attach the weights


Inflation:




3.) Problems of CPI

3.) Problems of CPI

*** The general problem is that CPI tends to overstate the actual increase in the cost of living.

- Introduction of New Goods

- Substitution Bias

- Unmeasured Quality Change

- Discount sales

3.) Problems of CPI

Substitution Bias - Over time, some prices rise faster than others.

- Consumers substitute toward goods that become relatively cheaper.

- The CPI misses this substitution because it uses a fixed basket of goods.

偏见

Example: You stop buying beef (in the CPI

basket) and buy lamb instead, (not in the CPI basket) hard to know and measure why people make these

choices and if they choice something not in the basket.

3.) Problems of CPI

Introduction of New Goods

- The introduction of new goods increases variety, allows consumers to find products that more closely meet their needs.

-

- -The CPI misses this effect because it uses a fixed basket of goods.

Example: You buy more Mini Ipads (not in the

basket) because they are new and cheap, but since they are new they can’t already be in the basket yet.

Everyone has a smart phone today, but they did not exist 15 years ago, so when should the government decide to put it

in the basket?

3.) Problems of CPI

Unmeasured Quality Change

- Improvements in the quality of goods in the basket increase the value of each dollar.

- The CPI tries to account for quality changes but probably misses some, as quality is hard to measure.

Example: Many electronic products today are

cheaper and better quality then in the past, how to measure that?

Phones today are better and cheaper than older phones, hard to measure this in

monetary terms.

3.) Problems of CPI

- Firms may decrease prices due to overstock or misreads of the market.

-The CPI may not compensate for these short term changes.

Discount sales

Example: Stores often have sales, how can the

government keep track of all the prices in the whole country when many places

have discounts and others don’t?

Prices online are much cheaper usually right? So how to measure it exactly if

you’re the government?

To summarize so far…

- a sustained increase in the cost of living or the general price level leading to a fall in the purchasing power of money.

Inflation

- is measured by the annual percentage change in consumer prices.

Rate of Inflation


- when the rate of inflation becomes negative.

Deflation

- the value of money becomes worthless.Hyperinflation

- ………………………….hless.Stagflation


- the main way to measure inflation.




- Government surveys consumers to determine what’s in the typical consumer’s “shopping basket.”


1.) Fix the “basket”

- Government then collects data on the prices of all the goods in the basket.

2.) Find the prices

3.) Compute the basket’s cost

-Use the prices to compute the total cost of the basket.


- The CPI in any year equals:


4.) Choose a base year and compute the index

100 xcost of basket in current year

cost of basket in base year

- The percentage change in the CPI from the preceding period:

6.) Compute the inflation rate

CPI this year – CPI last year

CPI last year

Inflation

ratex 100%=

5.) ?

2.1) Weighting CPI



- in which each item influences the index in proportion to its price per it’s share.

Weighted Index

{

Types of G &S

Proportion

spend by

households

Average price of

goods

Weighted average

price

Clothing 25 $44 0.25 x $44 = $11


Food 50 $8 0.50 x $8 = $4

Travel 15 $20 0.15 x 20 = $3

2.1) Weighting CPI


Prices have changed, but so has the weighted proportion of some items.

Current Year

100 xWeighted average prices in current year

Weighted average prices in base year

$27

$25CPI = 108=

5.) Attach the weights

3.) Problems of CPI

*** The general problem is that CPI tends to overstate the actual increase in the cost of living.

- Introduction of New Goods

- Substitution Bias

- Unmeasured Quality Change

- Discount sales

inflation sfls cpi

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