Question 1

When the actual inflation rate turns out to be greater than the expected inflation rate,who gains-the borrower or the lender-and who loses? Explain why.

Accepted Answer

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Question 2

If inflation is unanticipated,no redistribution of income can occur.

Accepted Answer

If inflation is unanticipated, some individuals and groups may benefit or suffer more than others, leading to a redistribution of income. For example, lenders and savers may lose out as the real value of their money declines, while borrowers benefit from paying back their loans with inflated currency. Similarly, workers with fixed incomes may struggle to keep up with rising prices, while those with flexible incomes or assets that appreciate in value may see their purchasing power increase.

Question 3

Describe how inflation can be costly even if it is anticipated.

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Question 4

Describe how a lender can lose during inflation if the inflation is unanticipated and the loan is a fixed-interest-rate loan.How would a variable-interest-rate loan (one that adjusts over the contract period)eliminate these loses?

Accepted Answer

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Question 5

The problem associated with inflation is that as prices rise,consumers can no longer afford to buy as many goods and services,since nominal income usually does not increase with inflation.

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Question 6

There are no costs to inflation if it is fully anticipated.

Accepted Answer

Even if inflation is fully anticipated, there are still costs such as menu costs (the costs of changing prices), shoe leather costs (the costs associated with more frequent transactions or withdrawals of money), and the distortions it can cause in taxation and savings.

Question 7

Explain why you would rather be a borrower during a period of unexpected rising inflation,and a lender during a period of unexpected declining inflation.

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Question 8

If inflation is anticipated,some effects of inflation on the redistribution of income can be avoided.

Accepted Answer

If inflation is anticipated, individuals and organizations can take steps to adjust their behavior accordingly and avoid some of the negative effects on income redistribution. For example, workers may negotiate for higher wages to keep pace with expected inflation, or retirees may invest in inflation-protected securities to maintain their purchasing power. However, it is important to note that even with anticipation, inflation can still have significant impacts on income distribution.

Question 9

Explain whether you agree or disagree with the following statement: "The reason that inflation is bad is because it increases the cost of living-the costs of goods and services we buy-without increasing income in general."

Accepted Answer

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Question 10

Inflation redistributes income to a greater extent when the inflation is unanticipated compared to when the inflation is anticipated.

Accepted Answer

When inflation is unanticipated, people's expectations for prices and wages are not adjusted accordingly, which means some individuals will benefit from the inflation while others will lose out. For example, individuals who have fixed-rate loans or who hold physical assets like property may benefit from unexpected inflation, while those who have fixed-income bonds or hold cash will be negatively affected. In contrast, when inflation is anticipated, people's expectations are adjusted for the rising prices, and there is less redistribution of income.

Quiz 13: Unemployment and Inflation