Economics Chapter on Inflation

Inflation

• Inflation is the general rise in the price level of goods and services.
• CPI (Consumer Price Index) measures inflation by tracking the price changes of a basket of goods and services, used to determine the cost of living and track changes in prices over time.
• The CPI for a particular year is calculated by dividing the price of goods in that year by the price of goods in the base year and multiplying by 100.

Types of Inflation

• Demand-Pull Inflation: Occurs during rapid economic expansion when spending exceeds the supply of goods and services, leading to higher prices.
• Cost-Push Inflation: Occurs when the cost of production increases due to factors such as rising oil prices or currency depreciation.
• Inflation is a complex phenomenon that can be influenced by a combination of demand-pull and cost-push factors.

Causes of Inflation

• Rapid Economic Expansion: Increased consumer spending due to higher incomes can outpace supply leading to demand-pull inflation.
• Higher Costs of Production: Increase in costs like oil prices or raw materials can result in cost-push inflation.

Negative Inflation

• Deflation is a period of negative inflation, meaning prices are generally falling.

Inflation Trends in Malaysia

• Malaysia experienced a recession in 1986, leading to lower inflation rates due to reduced demand caused by the collapse of commodity prices, particularly crude oil.
• The Malaysian economy suffered its most significant recession in 2009, impacting inflation rates.
• Recent months have experienced deflation due to the MCO (Movement Control Order), leading to lower spending and reduced demand.
• Inflation in 1998 was almost 6%, a reflection of an economic recession in 1997-98.

Inflation Trends in the United States

• The US experienced high inflation rates in the late 1970s and early 1980s due to cost-push inflation driven by rising crude oil prices.
• The US economy experienced low inflation rates in the mid-1980s, partly due to a recession in Malaysia and a global economic slowdown, leading to reduced demand for commodities.
• The US also suffered a severe recession during 2009, resulting in low inflation rates.

Economic Recessions and Inflation

• Malaysia experienced its most severe economic recession between 1997 and 1998, despite experiencing high inflation in 1998.
• The crisis involved currency speculation against Southeast Asian currencies, impacting Thailand, Malaysia, Indonesia, and Singapore.
• The 1997-1998 recession, although severe, led to substantial currency depreciation, resulting in higher imported goods prices.
• The Malaysian Ringgit's value declined from 2.5 Ringgit per USD to 4.88 Ringgit per USD during this period.
• Inflation generally tends to be low during economic recessions and rises during periods of rapid economic expansion.

Measuring Inflation and Core Inflation

• Inflation is measured through the Consumer Price Index (CPI), reflecting the overall change in prices of goods and services consumed by a typical consumer.
• Volatile price fluctuations in food and energy can significantly impact the CPI.
• Core inflation excludes volatile components like food and energy from the CPI, offering a more stable measure of inflation.

The Impact of Inflation

• Inflation erodes the purchasing power of money, reducing the value of nominal income.
• Inflation can lead to redistribution effects between different income groups.
• Individuals with fixed incomes, such as pensioners, are particularly susceptible to the negative effects of inflation.
• Saver's purchasing power is reduced by inflation, as their accumulated savings lose value over time.
• Creditors lose out due to inflation as the value of the repaid principal declines.
• Individuals and entities who anticipate inflation can protect themselves by adjusting their financial plans or incorporating inflation premiums.

Deflation

• Deflation, a continuous decline in prices, is generally unfavorable for the economy.
• Producers may face declining profits leading to job losses, impacting overall economic activity.
• Consumer confidence can be negatively affected as individuals postpone purchases in anticipation of further price declines.
• Deflation can lead to a vicious cycle of declining economic activity, job losses, and reduced consumer spending.

Hyperinflation

• Hyperinflation is a rapid and uncontrolled increase in prices, often measured in thousands of percentages.
• Hyperinflation occurs when people lose confidence in their currency’s value, leading to a surge in spending as they seek to avoid further losses.
• Hyperinflation can create a chaotic economic environment, requiring the printing of large denominations of currency to purchase basic goods.
• Zimbabwe experienced hyperinflation in the 2000s, with prices increasing by 14 million percent, requiring the printing of one billion Zimbabwean Dollar notes to purchase goods.

Inflation in Asset Markets

• Inflation can also occur in asset markets, including property and real estate.
• During economic expansion, demand for properties can increase, leading to significant price hikes.

Property Inflation

• Property prices and stock market prices can be affected by inflation.
• During rapid economic expansion, the stock market grows significantly.
• When a recession occurs, the stock market typically collapses.
• In 1997, during Malaysia's severe recession, the Kuala Lumpur stock exchange lost 600 billion ringgit in value.
• During economic recessions, asset prices and stock prices decline significantly.
• In the current recession, property prices, especially residential houses, have not dropped significantly. This is because the supply of houses is still insufficient for the population.
• The moratorium helped house buyers during the recession by allowing them to keep their homes even if they lost their jobs and could not make their payments.
• The moratorium prevented many houses from being auctioned off.

Economic Recessions & Business Cycles

• The Friday quiz will cover topics 2 and 3.
• Topic 3 covers:
  • The business cycle
  • Unemployment
  • Inflation
  • Measuring GDP
• Topic 4 will not be covered in the quiz as it has not been discussed yet.