What is inflation?
A general increase in prices across the economy.
What are menu costs?
Costs businesses incur when they have to change prices.
What are shoe-leather costs?
Time/effort spent trying to avoid the effects of inflation.
What is loss of purchasing power?
Your money buys less due to rising prices.
Define wealth redistribution in the context of inflation.
Inflation can shift wealth between groups, especially borrowers and lenders, depending on expectations.
What is unanticipated inflation?
Inflation that is different from what was expected.
Define nominal value.
The face value of something, not adjusted for inflation.
Define real value.
Value adjusted for inflation, reflecting purchasing power.
What is a fixed interest rate?
An interest rate that remains constant throughout the term of the loan.
What is a variable interest rate?
An interest rate that can change over the term of the loan, often tied to a benchmark rate.
How do menu costs apply to a digital retailer?
Updating website prices, changing online advertisements.
How do shoe-leather costs apply in a modern, digital economy?
Spending more time researching investments to protect savings from inflation.
How does unanticipated inflation affect a retiree on a fixed pension?
Reduces their purchasing power, making it harder to afford necessities.
How does unanticipated inflation benefit a homeowner with a fixed-rate mortgage?
The real value of their mortgage payments decreases.
How does unanticipated inflation affect a bank that issued many fixed-rate loans?
The bank receives less in real terms than anticipated, hurting profitability.
Explain how a firm cutting nominal wages can maintain purchasing power during moderate inflation.
If inflation is low, a small cut in nominal wages may not significantly impact workers' real wages.
How does moderate inflation encourage spending?
People are incentivized to buy now rather than later, as prices are expected to rise.
How does unanticipated inflation affect a worker with a COLA (Cost of Living Adjustment) in their contract?
The COLA helps protect their purchasing power, but there may be a lag in adjustment.
How does unanticipated inflation affect a business that holds a lot of cash reserves?
The real value of their cash reserves decreases.
How does unanticipated inflation affect a government that has issued a lot of long-term bonds?
The real value of their debt decreases, benefiting the government.
What are the differences between nominal and real interest rates?
Nominal is the stated rate; real is adjusted for inflation.
What are the key differences between menu costs and shoe-leather costs?
Menu costs are incurred by firms changing prices; shoe-leather costs are incurred by consumers trying to avoid inflation's effects.
What are the differences between anticipated and unanticipated inflation?
Anticipated inflation is expected; unanticipated is a surprise.
Compare and contrast the effects of unanticipated inflation on borrowers vs. lenders with fixed interest rates.
Borrowers benefit as the real value of their debt decreases; lenders lose as the real value of their payments decreases.
How do fixed and variable interest rates differ in the context of unanticipated inflation?
Fixed rates lock in payments, benefiting borrowers if inflation rises; variable rates adjust, shifting the risk to borrowers.
Compare the impact of unanticipated inflation on savers versus those holding assets like real estate.
Savers lose purchasing power; asset holders may see nominal value increase.
What are the differences between the effects of moderate inflation and hyperinflation?
Moderate inflation can stimulate spending; hyperinflation destroys economic stability.
Distinguish between the winners and losers of unanticipated inflation.
Borrowers with fixed rates and asset owners tend to win; savers and lenders with fixed rates tend to lose.
Compare the effects of unanticipated inflation on workers with fixed incomes versus those with COLA clauses.
Fixed incomes erode in value; COLA clauses provide some protection.
What are the key differences between nominal wage increases and real wage increases during inflation?
Nominal increases are the face value; real increases reflect purchasing power after accounting for inflation.
