INFLATION
Is an ongoing rise in the general level of prices of
goods and services in an economy over a period
of time.
In the case of the Philippines, it uses the consumer
price index to measure changes in the price level of
goods and services that is genereally consumed by
the public.
CONSUMER PRICE INDEX (CPI)
Is the cost of purchasing a hypothetical market
basket of consumption goods bought by a typical
household consumer during a given period of time,
generally a month, relative to the cost of
purchasing the same market basket during the
base year.
When constructing a price index, its value is
normalized to 100 in the base year. Then, the value
of price index in any year, say t, can be calculated
as:
Cost of market basket ∈Year t
PI = x 100
Cost of market basket∈Base Year
CPI: the market basket consists of consumptions
goods only because the objective is to measure the
effect of inflation on households.
PPI: the market basket consists of producer goods
like energy, raw materials, and intermediate goods.
GDP DEFLATOR: the market basket consists of all
kinds of goods that go into the computation of the
GDP.
A chief measure of price inflation is the inflation
rate, an annualized percentage change in the
general price index wherein:
CPI ∈current year−CPI ∈ previous year
x 100
CPI ∈ previous year
DEMAND PULL INFLATION
Demand-pull inflation or “inflationary” gap inflation
is a rise in the general price level resulting from an
excess of aggregate demand; often expressed as
“too much money chasing too few goods.” This
usually occurs at or near full employment, when the
economy is operating at or near full capacity.
Demand-pull inflation occurs because quantity
demand is greater than quantity supplied which
tends to increase pirces. The demand side is pulling
prices up with increased incomes and/or a change
in consumer preferences.
45 degree line: income expenditure diagram
Yf: full employment
Yd: aggregate demand Y
Y*: market-clearing level of output
Yf – Y1*: inflationary gap
COST-PUSH INFLATION
Is a rise in the general level of prices resulting from
an increase in the cost of production; any sharp
increase in costs of production of businesses can be
a potential source of cost-push inflation.
PURCHASING POWER OF MONEY
Indicates how many market basket of goods can be
purchased with one unit of money.
EFFECTS OF INFLATION
1. Unanticipated inflation alters the outcomes
of long-term projects.
2. Inflation distorts the information delivered
by prices.
3. People will respond to high and variable
rates of inflation by spending less and
more time trying to protect themselves
from inflation.
HEADLINE INFLATION
Refers to the rate of change in the consumer price
index, a measure of the average price of a standard
“basket” of goods and services consumed by a
typical family.

CORE INFLATION
Measures the change in average consumer price
after excluding from the CPI certain items with
volatile price movements.

FISCAL POLICY
Is the use of the government spending and taxes to
influence the nation’s spending, employment, and
price level; also defined as the manipulation of the
national government budget to attain price
stability, relatively full employment, and a
satisfactory rate of economic growth.

BALANCED BUDGET
Government revenues from taxes are equal to
government expenditures which include both
purchases of goods and services and transfer
payments.

BUDGET DEFICIT
It is present when total government spending
exceeds total government revenue from all sources.

BUDGET SURPLUS
It is present when the government’s revenues
exceed its total expenditures.

EXPANSIONARY FISCAL POLICY

Increases government spending and reduces taxes

CONTRACTIONARY FISCAL POLICY

Reduces government spending and increases taxes

CROWDING-OUT EFFECT
Financing the deficit pushes up interest rates on
government bonds;