Price Stability - Inflation

What is inflation?

• Inflation = General Rise in Prices• This includes both product/services prices as

well as income prices• If they are both rising at the same time- that is

a good thing• In the US our income usually rises faster than

the prices of goods/services• Compare the 19th Century to the 21st Century

Inflation

• Inflation decreases our PURCHASING POWER• Purchasing Power = the ability to purchase

goods and services• $1 in 1950 will not buy as much as $1 in 2013

– a drop in our purchasing power• We need more money in 2013 to buy the

same amount goods/services we bought in 1950

Tools

• Economist use a Price Index tool to determine how price of standard goods change over time.

• We will focus on Consumer Price Index (CPI)• CPI = the typical “market basket” of the average

consumer• Market Basket = a specific set of goods we use

continuously • To calculate CPI – we use the base year• We will use the CPI to determine inflation rate

Example

• The “Market Basket” can be divided into subgroups – like foods, clothes, Entertainment

• Your FOOD “market basket” would include the exact same items from month to month and year to year

• Ex – Pizza, Macaroni, Milk, Bread, and Coffee• Your ENTERTAINMENT “market basket” would do the same• Ex – Movie Tickets, Racecar Toys, Books• In the end you would add the total of all the “market

baskets” to get that months or years total then use the Cost from your base year and

Adding up our “Market Basket”• Assume 2000 is your Base Year and that the base year’s CPI was 100• 2000’s “market basket” totaled $500• In 2009 the same “basket” totaled $750• To get the CPI for 2009 we divide year 2000’s price with year 2009’s

price• CPI Formula = New Cost / Old cost x 100• 750/ 500 = 1.5 x 100 = 150• Now to calculate inflation we use the same formula we used for GDP• Inflation Formula = New Year CPI – Old Year CPI x 100

New Year CPI• 150 – 100 = 50 / 150 = .33 x 100 = 33• The Inflation rate from 2000 to 2009 was 33%

Calculating Inflation

• LUCKY for you I will not make you calculate the CPI before the inflation rate

• I will give the CPI for two given years and you will use the Inflation formula to calculate the rate of inflation

• The inflation formula is the same as the GDP one

• Inflation = New Year CPI – Old Year CPI X 100New Year CPI

Who’s helped? Who’s hurt?

• Helped• Cost of living wage increases• Savings/investments that aren’t fixed rate

• Hurt• Fixed income• Fixed savings/investments