Costs of Inflation - Costs of Inflation The costs of...

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Costs of Inflation The costs of inflation depend on if the inflation is anticipated or unanticipated. If inflation is anticipated, then economic decisions take this rate of inflation into account. For example, if everyone believes that the inflation rate will be 10%, then this higher price level can be taken into account. Workers can ask for 10% increase in wages in union contracts, landlords can raise rents by 10%, and banks can increase nominal interest rates by 10%. In this way, the real purchasing power of payments can be maintained. The costs of unanticipated inflation are much more serious, since economic decisions will have been made assuming a different price level. Costs of anticipated inflation: 1. Menu costs – the costs of physically changing prices. Restaurants have to print new menus, supermarkets have to change the prices in their computers for scanning, gas stations have to change the prices on their signs more often. 2. Shoe leather costs – the costs of resources devoted to keeping ahead of price changes in the economy. If gas prices are rising, you may go to the gas station more often to buy gas while it’s cheaper. If grocery prices are rising you may go shopping more often. If inflation reduces the purchasing power of money, you may keep more money in the bank to earn interest to protect its purchasing power. In all these cases, you runaround more and wear out your shoes. The extreme case was Germany in 1923 after WWI, when workers would be paid twice a day and run to the store with wheelbarrows full of marks to purchase goods before their prices went up even more. 3.
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This note was uploaded on 11/19/2010 for the course ECON 162 taught by Professor Christianson during the Spring '05 term at Binghamton University.

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Costs of Inflation - Costs of Inflation The costs of...

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