1. 1.4 Inflation

2. Unit 4 part 1 • The economic cycle and economic growth • Use of national income data to assess living standards • Inflation and deflation • Unemployment

3. Objectives • Revise key inflation terms • Understand the CPI and ‘weighted price’ indexes • Analyse the limitations of the CPI

4. Inflation Dominos!

5. What you should have 1

6. What you should have 2

7. Objectives • Revise key inflation terms • Understand the CPI and ‘weighted price’ indexes • Analyse the limitations of the CPI

8. What is inflation • Sustained increase in the price level • Measured in the UK using CPI (Consumer Price Index) • Rate of inflation (%) = percentage change in the CPI over the previous 12 months = annual inflation • Inflation describes a general movement upwards • Government’s current target = 2.0% (+/- 1%) = very difficult to hit central target

9. UK Inflation 2000-2013 3 key points about the CPI since 2007?

10. The CPI • A weighted price index to measure the change in prices of a typical ‘basket’ of goods • Categories of spending that go into the ‘basket’ change subtly each year using information from the Family Expenditure Survey • EG in 2008 smoothies, muffins and USB drives included by CD single removed • Reflects the Harmonised Index of consumer prices measure used in Europe

11. The Shopping Crunch?

12. The Shopping Crunch? 3 key points about prices 2009-2010

13. Weighted Price Indexes Price Index: change from 100 to 106 = +6% 25% of household expenditure on food So 106 X 25 = 2650 Add them together, then divide by total of weights (100) New price index = 106.6

14. Weighted Price Indexes Recalculate the price index if: 1) If the index of food prices grows to 120 2) Cheaper imports caused the index of clothing prices to fall to 95 3) If the weighting of transport increases to eighteen per cent and that for miscellaneous items falls by four per cent

15. Objectives • Revise key inflation terms • Understand the CPI and ‘weighted price’ indexes • Analyse the limitations of the CPI

16. Limitations of the CPI? Population Groups vary •CPI = average household •But different groups have different spending and therefore different inflation •EG weighting for cars and tobacco will be irrelevant for non-smokers and those without a car No house prices •Mortgage payments represent high proportion of spending of younger house buyers •Older house owners have paid off mortgages Over-estimate inflation •Price rises may hide real improvements in quality •Prices of many cars and electrical goods have fallen over the last 30 years, but innovations have made them significantly better

17. Objectives • Revise key inflation terms • Understand the CPI and ‘weighted price’ indexes • Analyse the limitations of the CPI • Understand the causes of inflation

18. Cost-push inflation • Rise in costs of imported raw materials eg wheat and oil • Rising labour costs • Higher indirect taxes. VAT up from 17.5% to 20% • Wage-price spirals

19. Draw it! Cost push inflation AD1 AS1 AS2 0 General price level P1 Y1 Real GDP Y2 P2

20. Demand-pull inflation • Little spare capacity in the economy • Increase in AD leads only to an increase in prices • AD increases when one or more of it’s components increases. E.G increased spending due to reduced income tax

21. Draw it! Demand pull inflation

22. Objectives • Revise key inflation terms • Understand the CPI and ‘weighted price’ indexes • Analyse the limitations of the CPI • Understand the causes of inflation