Inflation and Unemployment
Inflation and Unemployment
Definition
Inflation
• Refers to a continuous rise in general price level “In inflation everything gets more valuable except money”
Types of Inflation
(i) Moderate Inflation or Creeping Inflation: The general level of prices rise at a moderate rate over a long period of time • A single digit inflation is considered moderate and people continue to have faith in monetary system
Types of Inflation
(ii) Galloping Inflation: Inflation that proceeds at an exceptionally high rate (Average annual inflation 1050%) (iii) Hyper Inflation: Inflation more than three-digit rate per annum (very high or ‘out-of-control). (Average annual inflation of more than 50%) Currency become worthless and very less demand for money
E.g.: During Jan. 1922 to Nov. 1923, the prices in Germany shoot up by 100 million percent. Hyperinflation in Zimbabwe
Hyperinflation
Causes of Inflation (Theories of Inflation)
• Demand Pull Inflation – caused by demand factors
• Cost Push Inflation – caused by cost factors
Causes of Inflation
Demand Pull Inflation (Demand-side Theories of Inflation) Inflation is caused by an increase in any of the components of aggregate demand i.e., increase in C or I or G or (X-M)
• Usually it is an increase in G the primary cause of demandpull inflation
• As demand increases prices and output both increase • When the economy is close to potential output (peak) price rise is steeper compared to output
• When there is excess capacity, vice versa
Demand Pull Inflation in an AD-AS framework
P
P2 P* AS
An increase in demand shifts AD curve to the right AD increases to Y1 from Y* Since AS is not changing, the excess demand Y1 – Y*, is eliminated with an increase in price level to P2 This brings back the AD-AS equilibrium
• •
AD1 AD0
Y*
Y2
Y1
Y
As we have seen, both real (an increase in govt. expenditure or reduction in tax) and monetary factors (increase in money supply or decrease in
Definition
Inflation
• Refers to a continuous rise in general price level “In inflation everything gets more valuable except money”
Types of Inflation
(i) Moderate Inflation or Creeping Inflation: The general level of prices rise at a moderate rate over a long period of time • A single digit inflation is considered moderate and people continue to have faith in monetary system
Types of Inflation
(ii) Galloping Inflation: Inflation that proceeds at an exceptionally high rate (Average annual inflation 1050%) (iii) Hyper Inflation: Inflation more than three-digit rate per annum (very high or ‘out-of-control). (Average annual inflation of more than 50%) Currency become worthless and very less demand for money
E.g.: During Jan. 1922 to Nov. 1923, the prices in Germany shoot up by 100 million percent. Hyperinflation in Zimbabwe
Hyperinflation
Causes of Inflation (Theories of Inflation)
• Demand Pull Inflation – caused by demand factors
• Cost Push Inflation – caused by cost factors
Causes of Inflation
Demand Pull Inflation (Demand-side Theories of Inflation) Inflation is caused by an increase in any of the components of aggregate demand i.e., increase in C or I or G or (X-M)
• Usually it is an increase in G the primary cause of demandpull inflation
• As demand increases prices and output both increase • When the economy is close to potential output (peak) price rise is steeper compared to output
• When there is excess capacity, vice versa
Demand Pull Inflation in an AD-AS framework
P
P2 P* AS
An increase in demand shifts AD curve to the right AD increases to Y1 from Y* Since AS is not changing, the excess demand Y1 – Y*, is eliminated with an increase in price level to P2 This brings back the AD-AS equilibrium
• •
AD1 AD0
Y*
Y2
Y1
Y
As we have seen, both real (an increase in govt. expenditure or reduction in tax) and monetary factors (increase in money supply or decrease in