social cost of inflation

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1. MACROECONOMICS ASSIGNMENT ON SOCIAL COST OF INFLATION

2. CENTRAL UNIVERSITY OF BIHAR CENTRE FOR ECONOMIC STUDIES AND POLICIES GROUP MEMBER RAJNISH KUMAR RAUNAK NAVIN

3. INFLATION Inflation is defined as a sustained increase in the general level of prices for goods and services. It is measured as an annual percentage increase. .   

4. The Layman’s View If you ask the average person why inflation is a social problem, he will probably answer that inflation makes him poorer . “ Each year my boss gives me a raise, but prices go up and that takes some of my raise away from me.’’ The implicit as - sumption in this statement is that if there were no inflation, he would get the same raise and be able to buy more goods

5. Social Cost Social cost is the total cost to society. It includes both private costs plus any external costs The social costs of smoking include the passive smoking that other people experience.

6. Importance of Social Cost Rational choice theory suggests individuals will only consider their private costs. For example, if deciding how to travel, we will consider the cost of petrol and time taken to drive. However, we won’t take into consideration the impact on the environment or congestion levels for other members in society .

7. Therefore, if social costs significantly vary from private costs then we may get a socially inefficient outcome in a free market .

8. SOCIAL COST OF INFLATION Almost everyone thinks inflation is evil, but it isn't necessarily so. Inflation affects different people in different ways. It also depends on whether inflation is anticipated or unanticipated. If the inflation rate corresponds to what the majority of people are expecting (anticipated inflation), then we can compensate and the cost isn't high. For example, banks can vary their  interest rates  and workers can negotiate contracts that include automatic wage hikes as the price level goes up. 

9. The social costs of inflation …fall into two categories: 1. costs when inflation is expected 2. costs when inflation is different than people had expected

10. 1 . Shoe leather cost def : the costs and inconveniences of reducing money balances to avoid the inflation tax. ↑π ⇒ ↑ i ⇒ ↓ real money balances Remember: In long run, inflation does not affect real income or real spending.

11. 2 . Menu costs def : The costs of changing prices.

12. 3 . Relative price distortions Firms facing menu costs change prices infrequently.

13. 4. Unfair tax treatment Some taxes are not adjusted to account for inflation, such as the capital gains tax.

14. The cost of unexpected inflation Arbitrary redistribution of purchasing power Ex: From lenders to borrowers Increased uncertainty