CHAPTER 9

INFLATION

After learning this chapter, students are expected to be

able to:
1. Explain the concept of inflation
2. Explain the categorization of inflation
3. Describe different inflations theories
4. Calculate inflation using the index formula
5. Explain the effects of inflation
6. Explain government policies in overcoming inflation
7. Explain the concepts related to inflation
 Explain the categorization of inflation

A. Based on the severity, inflation can be

distinguished into four, they are:
1. Severe inflations (above 100% per year)
2. Heavy inflation (between 30%-100%)
3. Medium inflations (rate 10%-30%)
4. Light inflation (arround 10% per year)
Explain the concept of inflation

In economic term, inflation means a

condition in which the prices of goods and
services generally keep increasing
 Explain the categorization of inflation

B. Based on the source of inflation

1. Domestic inflation
This inflation caused by factors and phenomena inside
the country where the inflation happens.
2. Imported inflation
Imported inflation is inflation which is caused by the
inflation happening abroad.
 Explain the categorization of inflation

C. Based on the cause

1. Demand pull inflation
Demand pull inflation is inflation that is due to too
large demand .
2. Cost push inflation
Cost push inflation is inflation which happens because of
the increase of production cost
 Theories of inflation

1. Quantity theory (Irving Fisher)

In his opinion, inflation happens because of the increase
of the quantity of money in circulation
2. Keyne’s theory (JM Keynes)
According to Keynes, inflation occurs because people want to fulfill
their wants in excess of the available resources and economic
capability, resulting in insufficient supply and increase of price

3. Structural theory
The structural theory views that inflation happens because of the
rigid economic structure which causes production activities to run
more slowly than the rate of increase of population and demand
for goods and services
Calculating the rate of inflation

Below is the formula for consumer price index

(Index of Consumer Price/ICP)

∑Pn
ICP = ──── X 100
∑Po
 Effects of inflation

1. Effect of inflation on production

If the inflation is severe enough, it will encourage producers
to cut down production because the product tend not so sell
out
2. Effect of inflation on saving
Inflation makes expenditures increase due to the increase of
price, this will certainly reduce the amount of savings
3. …..
 Effects of inflation
2. ….
3. Effect of inflation on export
Domestic inflation makes the price of export commodities
increase. The high price of export commodities can cause
foreign demand to go down, so export will also decrease
4. Effect of inflation on economic activities in
general
Inflation causes the trust of economic actors of the exicting
condition to deteriorate. A lot of businesses reduce their
activities, so unemployment increases because many
companies dismiss their workers in large scale
Government Policies on inflation
To overcome inflation, the government has
implemented some policies as follows:
1. Monetary policy
Monetary policy is carried out to reduce the quantity of
circulating money
2. Fiscal policy
Fiscal policy or budget policy is a government policy to
influence government’s income and expenditure
3. ….
Government Policies on inflation
To overcome inflation, the government has
implemented some policies as follows:
2. ….
3. Policies other than monetary and fiscal
• Giving subsidies to businessmen to stimulate
them to increase production
• Facilitating import
• Determining maximum price
• Preventing stock piling
 Inflation related concepts

1. Deflation
Deflation means a general tendency of the price of goods
and services to go down
2. Devaluation
Devaluation means the decrease of currency value due to a
government policy
3. …..
 Inflation related concepts

2. …….
3. Revaluation
Revaluation is a government policy for raising the value of
domestic currency
4. Depreciation
Depreciation means the decrease of currency value due to
the fall of demand in the stock market