Economics Chapter 7: Inflation Flashcards

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Questions and Answers

What is inflation defined as?

an increase in average price level

How is inflation measured?

by an increase in Consumer Price Index (CPI)

Who benefits from inflation?

borrowers

What does the term base year refer to in price indexes?

an arbitrarily chosen reference year Signup and view all the answers

What bias in the consumer price index is caused by consumers buying fewer bananas as their price rises?

substitution bias Signup and view all the answers

What does deflation mean?

a decrease in the general level of prices in the economy Signup and view all the answers

What is the real interest rate defined as?

the nominal interest rate minus the inflation rate Signup and view all the answers

If the inflation rate exceeds the nominal rate of interest, what are the outcomes?

The real interest rate is negative Signup and view all the answers

What is demand-pull inflation?

a rise in the general price level resulting from an excess of total spending Signup and view all the answers

What is an example of demand-pull inflation?

excessive aggregate spending Signup and view all the answers

What is cost-push inflation?

an increase in the general price level resulting from an increase in the cost of production Signup and view all the answers

What leads to cost-push inflation?

labor cost increases, energy cost increases, raw material cost increases Signup and view all the answers

What is hyperinflation?

an extremely rapid rise in the general price level Signup and view all the answers

What is the most likely response of consumers during periods of hyperinflation?

spend money as fast as possible Signup and view all the answers

What is the base year in the Consumer Price Index (CPI)?

a year chosen as a reference for prices in all other years Signup and view all the answers

What does deflation refer to?

a situation in which prices are declining Signup and view all the answers

What is inflation?

an increase in the general price level of goods and services in the economy Signup and view all the answers

What happens when the rate of inflation is lower than anticipated by lenders and borrowers?

redistribution of wealth from borrowers to lenders Signup and view all the answers

As the price of gasoline rose during the 1970s, what bias did consumers' behavior contribute to in the consumer price index?

substitution bias Signup and view all the answers

What does CPI stand for?

Consumer Price Index Signup and view all the answers

Study Notes

Inflation Overview

Inflation signifies a rise in the average price level of goods and services in an economy.
Deflation represents a decrease in the general price level.

Measurement of Inflation

The Consumer Price Index (CPI) serves as the primary measure for inflation by tracking changes in average prices.
To compute CPI, a base year is utilized as a reference point for comparison across other years.

Effects of Inflation

Borrowers benefit from inflation because the real value of debt decreases over time.
A negative real interest rate occurs when inflation exceeds nominal interest rates, leading to losses for lenders and savers.

Types of Inflation

Demand-pull inflation arises from excessive total spending, driving up prices.
Cost-push inflation is attributed to increased production costs, including labor, energy, and raw materials.

Economic Conditions and Consumer Behavior

During hyperinflation, consumers tend to spend money rapidly due to fears of further price increases.
In scenarios of inflation, if the actual rate is lower than anticipated, wealth shifts from borrowers to lenders.

Biases in CPI

Substitution bias occurs when consumers alter their purchasing habits in response to price changes, affecting CPI accuracy.
Examples include consumers buying fewer bananas as prices rise or reducing gasoline consumption when gasoline prices increase.

Key Definitions

Real interest rate is the nominal interest rate adjusted for inflation.
CPI measures fluctuations in the prices of a basket of consumer goods and services over time.

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Description

Test your knowledge on inflation with these flashcards from Chapter 7 of your economics course. Learn key terms such as Consumer Price Index (CPI) and discover who benefits from inflation. Perfect for reviewing crucial concepts related to price levels and economic theory.