Unit 2 - Inflation

Inflation - a general rise in the price level

• Inflation reduced the purchasing power of the money
• When inflation occurs, each dollar of the income will buy fewer goods than ever before
• Causes of inflation:
1. the government prints too much money
2. demand pull inflation
• too many dollars chasing too few goods
• demand pulls up prices
3. cost-push inflation
• high production cost that increases prices
• Unanticipated inflation
• Hurt by inflation:
1. lenders/creditors (fixed rate)
2. people on a fixed income
3. savers
• Helped by inflation:
1. borrowers/debtors
2. a business where the price of the product increases faster than the price of resources
3. flexible income people
• Unaffected/uncertain by inflation:
1. ARM (adjustable rate mortgage)
2. people who have a salary/pension/social security that receive a COLA (cost of living adjustment)
• Nominal interest rate - unadjusted cost of borrowing or lending money
• Real interest rate - cost of borrowing or lending money which is adjusted for inflation
• formula: (normal interest rate) - (inflation)