Ex 4. Match each term with the appropriate explanation. Price-level, Consumer Price Index, inflation, deflation, consumer durables
price-level, Consumer Price Index, inflation, deflation, consumer durables
1. An increase in the general price level, e.g. in the CPI over an extended period.
2. A sustained decline in the general price level, e.g. in the CPI, over an extended period.
3. The economic indicator which measures the prices of a fixed market basket of some 300 consumer goods and services purchased by a typical urban consumer.
4. Goods that are intended to be used over a period of time.
5. The average of all prices in a country at particular time.
Ex 5. Answer the questions.
1. What economic phenomena may have negative consequences for the economy? What do they imply?
2. What is called the situation when there is no inflation or deflation?
3. Why is it important to differentiate between movements in prices of any individual good or service and movements in the general price level?
4. How can stability in the general price level go in line with substantial changes in individual prices?
5. How can inflation be measured? Why measure it?
6. What is “market basket”?
7. What is CPI? How it is calculated?
8. How is the annual rate of inflation calculated?
9. What is implied in ”average consumption pattern”? who is an “average customer”?
Ex 6. Find in the text the words and expressions that characterize or name:
1) the situation when prices neither increase nor decline
2) the purchasing patterns of consumers
3) the overall price changes faces by each individual consumer
4) a means for giving a general picture of what is happening to many prices
Ex 7. Comment on the following:
1. Frequent changes in individual prices are quite normal in market-based economies, even if there is price stability overall.
2. The inflation measured by the index (CPI) is only an approximate measure of the average situation in the economy.
3. The price index may rise despite some prices actually declining.
Text B
The information given in the previous text explains why inflation and deflation are generally undesirable phenomena.
Indeed, there are substantial disadvantages and costs related to inflation and deflation. Price stability prevents these costs from arising and brings about important benefits for all citizens. There are several ways in which price stability helps to achieve high levels of economic welfare, e. g. in the form of high employment.
Price stability supports higher living standards by helping to reduce uncertainty about general price developments and thereby improve the transparency of relative prices.
First, price stability makes it easier for people to identify changes in the prices of goods expressed in terms of other goods (i.e. “relative prices”), since such changes are not concealed by fluctuations in the overall price level. For example, let us suppose that the price of a certain product increases by 3 %. If the general price level is stable, consumers know that the relative price of this product has increased and may therefore decide to buy less of it. If there is high and unstable inflation, however, it is more difficult to find out the relative price, which may have even declined. In such a situation it may be better for the consumer to buy relatively more of the product of which the price has increased by “only” 3 %. In the case of general deflation, consumers may not be aware of the fact that a fall in the price level of a single product merely reflects general price developments and not a fall in the relative price level of this good. As a result, they may mistakenly buy too much of this product.
Consequently, if prices are stable, firms and consumers do not run the risk of misinterpreting changes in the general price level as relative price changes and can make better informed consumption and investment decisions.
Uncertainty about the rate of inflation may also lead firms to make wrong employment decisions. To illustrate this, let us suppose that in an environment of high inflation, a firm misinterprets the increase in the market price of its goods by, say, 5 %, as a relative price decrease as it is not aware that the inflation rate has recently fallen from, say, 6% to 4%. The firm might then decide to invest less and lay
off workers in order to reduce its production capacities, as it would otherwise expect to make a loss given the perceived decrease in the relative price of its goods. However, this decision would ultimately turn out to be wrong, as the nominal wages of employees due to lower inflation may increase by less than that assumed by the firm. Economists would describe this as a “misallocation” of resources. In essence, it implies that resources have been wasted, as some employees would have been made redundant because of instabilities in price developments.
Price stability reduces inflation uncertainty and therefore helps to prevent the misallocation of resources described above. By helping the market guide resources to where they can be used most productively, lasting price stability increases the efficiency of the economy and, therefore, the welfare of households.
Hyperinflation
A situation in which the rate of inflation is very high and/or rises constantly and eventually becomes out of control is called “hyperinflation”. Socially, hyperinflation is a very destructive phenomenon which has far-reaching consequences for individuals and society as a whole. Although there is no generally accepted definition of hyperinflation, most economists would agree that a situation where the monthly inflation rate exceeds 50% can be described as hyperinflation.
Hyperinflation and periods of very high inflation occurred several times during the 20th century. Below are some examples of countries that experienced such high annual rates of inflation and the respective figures for the years indicated:
1922 Germany 5,000 %
1946Hungary 41,900,000,000,000,000%
1985 Bolivia more than 10,000 %
1989 Argentina 3,100 %
1990 Peru 7,500 %
1993 Brazil 2,100 %
1993 Ukraine 5,000 %
The post-WWII hyperinflation of Hungary holds the record for the most rapid monthly inflation increase ever. It means prices doubled every 13,5 hours.
Let us briefly illustrate the consequences of such a phenomenon. An inflation rate of 50 % per month implies an increase of more than 100-fold in the price level over a year and an increase of more than two million-fold over three years. There is no doubt that such rates of inflation place a heavy burden on society. In fact, in Germany, the hyperinflation that followed World War I and peaked in 1923 had devastating economic, social and – as is widely agreed – political consequences.
As many people lost their savings, this led to a substantial loss in wealth for broad segments of the population. The realization that price levels were constantly rising sparked a vicious circle. People naturally asked for higher wages, anticipating higher price levels in the future. These expectations became a reality, since higher wages translated into higher costs of production, which again meant higher prices. In the same vein, people started to pass on their money – which lost its value – by spending faster and faster.
The Government reacted to the decline in the value of money by adding more and more zeros to the paper currency, but over time it became impossible to keep up with the exploding price level. Eventually these hyperinflation costs became intolerable. Over time money completely lost its role as a store of value, unit of account and medium of exchange. Barter became more common and unofficial monies, such as cigarettes, which did not lose their value due to inflation, started to replace official paper money.
The first country to hyperinflate in the 21st century is Zimbabwe. In 2008, a loaf of bread cost 1.6 trillion Zimbabwe dollars. Officials in Zimbabwe blamed it on rising global food prices and international sanctions. The Zimbabwean dollar bank note holds the record for the greatest number of zeros shown (100,000,000,000,000). Hungary holds the record for the largest banknote ever issued, but its bank note did not depict all the zeros – the amount was spelled out.
Vocabulary list
1. torelateto – быть связанным с, относиться к чему-либо
2. fluctuation – колебание, неустойчивость
3. to misinterpret – неправильно оценить
4. to lay off (workers) – увольнять (работников)
5. redundant – излишний, убыточный; уволенный, потерявший работу
6. to place a heavy burden (on) – возлагатьтяжелоебремя (на)
7. tokeepup (with) – соответствовать чему-либо
Ex 1. Suggest the Russian equivalents:
substantial disadvantages and costs related to inflation and deflation; to identify changes in the prices of goods expressed in terms of other goods; fluctuations in the overall price level; to make better informed consumption and investment decisions; to misinterpret the increase in the market price; to turn out to be wrong; ultimately; to have devastating economic, social and political consequences; a substantial loss in wealth; broad segments of the population; to keep up with the exploding price level.