Chapter 10: Inflation

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Inflation

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A general and ongoing rise in the prices in an economy.

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Basket of Goods and Services

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A hypothetical group of different items, with specified quantities of each one, used as a basis for calculating how the price level changes over time.

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Index Number

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When one arbitrary year is chosen to equal 100 and then values in all other years are set proportionally equal to that base year.

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Consumer Price Index (CPI)

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A measure of inflation calculated by U.S. government statisticians based on the price level from a basket of goods and services that represents the purchases of the average consumer.

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Substitution Bias

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An inflation rate calculated using a fixed basket of goods over times tends to overerstate the true rise in the cost of living because it doesn't take into account that the person can substitute away from goods whose prices rise by a lot.

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Quality/New Goods Bias

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Inflation calculated using a fixed basket of goods over time tends to overstate the true rise in cost of living because it doesn't take into account improvements in the quality of existing goods or the invention of new goods.

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Producer Price Index

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A measure of inflation based on the prices paid for supplies and inputs by producers of goods and services.

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International Price Index

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A measure of inflation based on the prices of merchandise that is exported or imported.

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Employment Cost Index

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A measure or inflation based on the wage paid in the labor market.

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GDP Deflator

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A measure of inflation based on all components of the GDP.

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Deflation

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Negative inflation.

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Hyperinflation

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Extremely high rates of inflation.

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Nominal Value

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The economic statistic actually announced at that time, not adjusted for inflation (Commonly Announced)

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Real Value

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An economic statistic after it has been adjusted for inflation; contrast with "nominal value."

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Real Interest Rate

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The rate of interest with inflation subtracted.

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Indexed

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When a price, wage, or interest rate is adjusted automatically for inflation.

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Cost-of-Living-Adjustments (COLA)

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A contractual provision that wage increases will keep up with inflation.

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Adjustable Rate Mortgage (ARM)

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A loan used to purchase a home in which the interest rate varies with the rate of inflation.

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Rate of Inflation

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Measured as the percentage change between price levels over time.

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U.S. Historic Inflation

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Last two decades between 2-4%. Highest inflation occurred during years after WW1 and WW2 and in the 1970s. Lowest inflation, actually deflations, during the Great Depression of the 1930s.

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Nominal to Real GDP

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1960 GDP in 1960 Dollars x (Price level in 1990/Price level in 1960) = 1960 GDP in 1990 Dollars