Introduction

Background of Inflation

Inflation is a rise in the general level of prices for goods and services in the macroeconomics. (McConnell et al, 2012) It reduces the “purchasing power” of money. Inflation occurs when the demand and supply of money is imbalance, which cause the changes in production and distribution costs or increase in taxes on products. (The Economic Times, 2013)

In turn, inflation does not mean that all the prices for the goods and services are rising. Sometimes, prices may be relatively constant and others may even fall during the period of rapid inflation. (McConnell et al, 2012) This is because when the prices fall, the average may fall also, resulting in negative inflation, which is known as deflation. (Cliffe, 2013) In this case, central banks attempt to keep the excessive growth of prices to minimum, as to stop the severe inflation and deflation. (Investopedia, 2013) 

Sometimes, falling of inflation does not mean that falling in prices. According to the BBC news, there was a steep drop in inflation from 5% to 1% over the year in United Kingdom. (BBC News, 2013) Inflation is falling, but the rate of inflation remained positive, which means that the prices were rising but at a slower rate. A slowdown in inflation is different as deflation. For this to happen, inflation would have to be negative. 

Thus, the government tries to control the inflation. If we do not talk about the negative effects, a moderate level of inflation characterizes a good economy. Actually, moderate inflation rate is good for economic growth. An inflation rate of 2 or 3% is good for an economy because it encourages people to buy more and borrow more. It is because during the times of low inflation, the level of interest rate also remains low. Hence the government and the central bank always strive to achieve a limited level of inflation. (The Economic Times, 2013)

Reason of Our Selection

The reason that we chose inflation as the topic is it reflects on every one of us in the world. We are the consumers. Consumers are the one who have the worst impact when inflation occurs. Higher price of goods and services make it difficult for the consumers to afford the basic commodities in life. They have no choice to change the fact and they ask for a higher income because their wages do not change although the rate of inflation has changed. Besides, once people start to expect inflation, they will spend now rather than later because they know that the things will cost more later. When consumer spending increases, inflation continues to build. Consumer spending will crash when the job killing effect attached to inflation. As inflation increases, the value of investments decreases.

This spending will be heating up the economy even more and leads to more inflation until it is out of control. Businesses will be cutting down the staffs. Without income, the unemployed individuals are forced to spend less. In fact, the consensus view is that a continuous of long period of inflation is caused by money supply growing faster than the rate of economic growth. (ForexMetrics, 2013)

With the issues stated above, our 

Goals to achieve is:

Why is inflation occurs?

What factors affect the inflation rates?

How to calculate inflation rate?

What are the effects of inflation?

How government control the inflation?
How inflation affect consumer purchasing power?

Limitations

Conducting a research neither easy nor hard. This research tells exactly what was done and where the information came from. The information includes the theories and facts about macroeconomics. The reliability of the data from the online sources was one of the limitations. As we know, it is quite difficult for us to know that the online information is true or not. Sometimes, the information that we search online may not be well structured. As a result, we have to ensure that the data that we obtained is well-organised and making people to understand well. Every assignment includes limitations of the materials being researched. Thus, despite the limitations, the research was done successfully in helping to complete the assignment. 

Methodology

This survey is conducted by doing some basic online research. We, as a team often meet up to discuss on how can we improvise this survey. Firstly, we discussed a lot on how can we improve our weblog by the design, contents and some attractive pictures. Then, we roughly have an idea in our mind so that we could share our ideas during our next meet up. Secondly, our leader divides the job so that everyone of us could complete each responsibilities at home. Thus, we can complete the coursework within the time given. Last but not least, graphs and graphics are also provided for the readers to understand more about our survey. 

To retrieve the basic needs to assess the problem statements and to achieve its objectives, our methodology are considered reliable. It is because the websites that we were referring are actually from the official websites. In fact, online researches are highly recommended due to its easy way of updating new information to the readers. Doing online researches is easy as compared to carry tonnes of books around the streets and walk here and there. Moreover, most of our findings are based on the latest updates, which books cannot be found. Therefore, our methodology is reliable. 

Finding and Analysis

Why is inflation occurs?
Inflation occurs when there are changes in the demand and supply of goods and services. If inflation occurs, each dollar of income will buy fewer goods and services than before, which inflation is positive. When the price level of goods and services rises, the value of currency reduces. 

What factors affect the inflation rates?

There are two main causes of inflation such as demand-pull inflation and cost-push inflation. (Taylor and Weerapana, 2012) 

Demand-pull inflation is caused by sources of an increase in aggregate demand. (Sloman et al, 2012) It starts when there is a rise in demand for a good or services, but supply stays the same. In this case, buyers will be willing to pay more to satisfy their demand. Demand-pull inflation is likely when there is full employment of resources. (Refer Chart 1)

Sources of a decrease in aggregate supply operated by increasing costs, and the resulting inflation is called cost-push inflation. This occurs when the supply of goods or services is limited for some kind of reasons when the demand stays the same. As a result, it can create wage inflation when the supply of labor is not enough to meet the demand. (Refer Chart 2)

Inflation Rate in the United States

(Click the image to view larger)

The inflation rate in the United States was recorded at 1.20% in September of 2013, as reported by the Bureau of Labor Statistics (BLS) on 30 October 2013. (USInflation.org, 2013) Based on the chart above, US inflation on the last 12 months has climbed by 1.5% after advancing 2.0% in July 2013. As reported by the BLS for 2013, the past US inflation rates include an annual increase of 1.8% in June, 1.4% in May, 1.1% in April, 1.5% in March, 2.0% in February and 1.6% in January.

The Consumer Price Index (CPI) is among the most commonly-used measures of inflation in the United States. The CPI is used to measure the changes in prices experienced by the average consumers in the economy. Economists and central bankers will often subdivide the CPI into "core inflation", which is a measure that excludes the price of food and energy. (Investopedia, 2013)

The American CPI shows the change in prices of a standard package of goods and services, which the American households will be purchasing it for consumption. In order to measure the inflation, an assessment is made of how much the CPI has risen in percentage terms over a given period of time as compared to the CPI in a preceding period. When the prices have fallen, it is deflation. 

Inflation rate in United Kingdom

(Click the image to view larger)

The rate of inflation is measured by the annual percentage change in the consumer prices. For instance, the British government will be setting an inflation target of 2% or 3% each year using the Consumer Price Index (CPI). Moreover, it is the job for the bank to set the interest rates. Therefore, the aggregate demand is within control, as the bank is independent of the government with control of the interest rates that is free from political intervention. In fact, the bank is also concerned about the economy. 

How to calculate inflation rate?
The main measure of inflation in the United States is the Consumer Price Index (CPI), compiled by the Bureau of Labor Statistics (BLS). (McConnell et al, 2012) Inflation measures the change in price levels over a period of time, as measured by the Consumer Price Index (CPI).

The composition of the market basket for the CPI is based on the spending patterns of urban consumers in a specific period. The rate of inflation is equal to the percentage growth of CPI from one year to the next. The September-September rates of inflation in the United States between year 2012 and 2013 is as follows:

234.149-231.407 x 100

231.407  

=1.18%

(US Inflation Calculator, 2013)

What are the effects of inflation?
There is a fall in purchasing power of the values of money that the bank has been lent out, which means that the value of money to be repaid falls in terms of purchasing power falls. Maybe the interest rate of the bank may raise but the exchange rate may fall, due to the purchasing power of the money is not high. This can be very damaging the poor people. There will be hardships for the poor people and the fixed income salaried household. People may be left worse off when the prices rise and their wages do not. Besides, the value of investment can be reduced when the returns proved that it is insufficient to compensate them for inflation. When the purchasing value of the money is low, less businesses and investors would like to make long-term contract, as these do not benefits them. In turn, the long-term investment is also discouraged. So, central bank plays an important role. It should control the money supply growth. 

 (Peter, 2007)

Apart from that, if deflation occurs, the average prices are falling and various economic effects will be resulting. For instance, people will not put off their spending when they expect the prices to fall. During deflation, the demand for liquidity goes up and the purchasing power of money increases. Investment will fall, leading to further reductions in aggregate demand. In fact, the real value of lands to be repaid may rise. Unemployment may increase, as the stock market crash sucked all the liquidity out of the market place and the economy contracted. When the people lose their jobs, the banks then stopped lending money to them.

(Reisman, 2009)

How government control the inflation?

The government uses a few numbers of policies to control the inflation such as demand side policies, supply side policies and exchange rate policies. 

Demand side policies includes deflationary fiscal policy. This policy involves an increase in taxes and lowering of government spending. Increasing in taxes will result in lowering the disposable income for household and thus less consumption. Furthermore, increased taxes will result in lowering the profits of the firms and thus less investment by firms. This is the ways to lower the aggregate demand in the economy. Besides, deflationary monetary policy, which is also includes in demand side policies also can control the inflation. This policy involves in rising the interest rates and reducing the money supply. Higher interest rates means higher loan and mortgage repayments. Thus, deter household and firms to borrow, leading to a fall in consumption and investment respectively. 

Supply side policies is one the policies in controlling the cost push inflation. It includes all those policies, which aim at improving the efficient supply of goods and services. For example, have more competition in all industries by removing entry barriers, thus leading to more efficiency. 

Exchange rate policies, which is used to control the imported inflation involves in increasing the value of currency to reduce the imported inflation. Increasing currency rate will also lead to a fall in demand for exports. 

How inflation affect consumer purchasing power?

Purchasing power is an economic theory relating to an individual ability to buy goods or services in the economic market place. The relationship between purchasing power and inflation are inversely proportional, meaning as when the inflation increases consumer prices over a period of time, the consumer purchasing power will be reduces. This is because when there is inflation of the price, the price level will be higher and people’s ability to pay for goods or services might decrease. The concept at a basic level says if an employee's wages remain steady, but the cost of goods increases, then the employee can only afford fewer goods and services.

Conclusion

We had conducted this study of inflation in the macroeconomics based on the information that we found  from the web resources. Throughout the online research, we get to know more about the definition, reasons, factors, effects and examples of inflation happened in the world today. With the findings from this case study, we had also achieved our goals and objectives as stated in the analysis.

In the nutshell, inflation is an issue that need to be aware. Consumers are one of the important factors for inflation. However, when inflation occurs, consumers will also be the one whom suffer. It is a serious matter for fixed income families, as a result of inflation, cost of goods will raise while their income remains affecting their purchasing power. In other word, when inflation goes up, there will be a decline in purchasing power of money. Talking about the effect of inflation, it can be as big as affecting the economics of a country or as small as the affordability in buying goods from the grocery stalls. Malaysia is lucky to have a stable inflation rate, however, government should get the taxes and monetary rate well organized to prevent the increasing in annual inflation rate and also to improve the economics of Malaysia in future.

References

BBC News Business. (2013) Economy tracker: Inflation. [ONLINE] Available from: http://www.bbc.co.uk/news/10612209 [Accessed 15 October 2013]

ForexMetrics. (2013) Consumer Price Index. [ONLINE] Available from: http://www.forexmetrics.com/theory-of-inflation.html [Accessed 3 November 2013]

George Reisman. (2009) Falling Prices Are the Antidote to Deflation. [ONLINE] Available form: http://mises.org/daily/3296 [Accessed 4 November 2013]

Investopedia. (2013) Inflation. [ONLINE] Available from: http://www.investopedia.com/terms/i/inflation.asp [Accessed 3 November 2013]

Investopedia. (2013) Macroeconomics: Inflation. [ONLINE] Available from: 

http://www.investopedia.com/university/macroeconomics/macroeconomics6.asp [Accessed 4 November 2013] 

John B. Taylor and Akila Weerapana (2012) Principles of Economics. 7^th ed. USA: Joe Sabatino.

John Sloman, Alison Wride and Dean Garratt (2012) Economics. 8^th ed. England: Pearson Education Limited.

Mark Cliffe. (2013) What is…inflation. [ONLINE] Available from: http://www.ezonomics.com/whatis/inflation [Accessed 3 November 2013]

McConnell, C.R., Brue, S.L., Flynn, S.M. and Grant, R. (2012) Economics. 19^th ed. New York: McGraw-Hill.

Peter. (2007) Plan Your Escape: Understanding Inflation. [ONLINE] Available from: http://www.planyourescape.ca/understanding-inflation-24 [Accessed 4 November 2013]

The Economic Times. (2013) Definition of ‘Inflation’. [ONLINE] Available from: http://economictimes.indiatimes.com/definition/Inflation [Accessed 3 November 2013]

USInflation.org. (2013) US Inflation Rate. [ONLINE] Available from: http://usinflation.org/us-inflation-rate/ [Accessed 3 November 2013]

US Inflation Calculator. (2013) Consumer Price Index Data from 1913 to 2013. [ONLINE] Available from: http://www.usinflationcalculator.com/inflation/consumer-price-index-and-annual-percent-changes-from-1913-to-2008/ [Accessed 4 November 2013]