InflationControlandUnemployment.pdfVIP

Tutor2u Economics Essay Plans Summer 2002 Macroeconomics Revision Essay Plan (2): Inflation and Unemployment and Economic Policy (a) Explain why it is considered important to control inflation (20 marks) (b) Discuss how a government’s commitment to achieve stable prices is likely to affect the level of unemployment (30 marks) Note: This question is focusing on the consequences of inflation rather than the causes Part (a) focuses on the economic and social costs of inflation that have persuaded governments to make inflation control one of the top objectives of macroeconomic policy-making over the last twenty years. The current government is committed to the control of inflation (it has an explicit inflation target for RPIX of 2.5% +/- 1% as a pre-condition for macroeconomic stability and sustained economic growth Briefly define inflation – a sustained rise in the general level of prices as measured by the RPI Develop the case for the need for economic policy to control inflation by looking at the economic and social costs of inflation (not all of the following need to be covered except those marked important!) In explaining and assessing the costs of inflation, we often distinguish between different degrees of inflation, since low stable inflation has less of a damaging effect on the macro-economy in the short and the long run than hyperinflation where prices are out of control Impact on Savers and Debtors – An Arbitrary Redistribution of Income Inflation leads to a rise in the general price level so that money loses its value. People may lose confidence in money as the real value of savings is reduced. This is the case with rapid inflation. Savers will lose out if nominal interest rates are lower than inflation – leading to negative real interest rates. Inflation can also favour borrowers at the expense of savers as inflation erodes the real