Inflation Practice Questions

Correct answer: A sustained rise in the general price level

Inflation represents the rate at which the general level of prices for goods and services is rising. As a result, the purchasing power of a unit of currency falls.

Correct answer: Demand-Pull Inflation

Demand-Pull inflation happens when there is an increase in aggregate demand, often described as 'too much money chasing too few goods'. This typically occurs in a rapidly growing economy.

Correct answer: High inflation, stagnation, and high unemployment

Stagflation is a rare and difficult economic situation where the inflation rate is high, the economic growth rate slows, and unemployment remains steadily high. It presents a dilemma for monetary policy as actions to lower inflation may increase unemployment.

Correct answer: Consumer Price Index (CPI)

The Reserve Bank of India (RBI) adopted the Consumer Price Index (Combined) as its key measure of inflation in 2014. CPI reflects the change in prices from the perspective of a retail buyer.

Correct answer: Very rapid inflation exceeding 50% per month

Hyperinflation is an extreme economic phenomenon where prices rise at a very high and accelerating rate. It usually occurs when a government prints excessive amounts of money to fund its spending.

Correct answer: Debtors (Borrowers)

Debtors benefit because they repay their loans with money that is worth less than the money they originally borrowed. Conversely, creditors and fixed-income earners lose purchasing power.

Correct answer: Inflation excluding food and energy

Core inflation is used to observe the long-term trend in the price level by removing items that experience temporary price shocks. Food and energy prices are excluded as they are often highly volatile.

Correct answer: Phillips Curve

The Phillips Curve suggests that there is a trade-off between inflation and unemployment in the short run. Lower unemployment is typically associated with higher inflation and vice versa.

Correct answer: Stimulating the economy to counter deflation

Reflation is a policy enacted by a government or central bank to increase the level of economic activity and combat deflation. It usually occurs after a period of economic contraction or recession.

Correct answer: An increase in production costs

Cost-push inflation occurs when the costs of production rise, forcing companies to increase their prices to maintain profit margins. A common example is a spike in global crude oil prices.

Correct answer: A specific year used as a benchmark for comparison

The base year is a reference point used to compare the prices of the current year. The index value for the base year is always set at 100 for simplicity of calculation.

Correct answer: Reducing a product's size or quantity without changing its price

Shrinkflation is a form of hidden inflation where consumers pay the same price for a smaller amount of a product. It is a tactic used by companies to deal with rising production costs without raising the sticker price.

Correct answer: Increasing the Repo Rate

Increasing the Repo Rate makes borrowing more expensive for commercial banks, which in turn raises interest rates for consumers. This reduces the amount of money circulating in the economy and helps temper inflation.

Correct answer: A reduction in the rate of inflation

Disinflation is a slowing in the rate of price inflation. It is important to distinguish this from 'Deflation', which is an actual decrease in prices (a negative inflation rate).

Correct answer: All goods and services produced domestically

The GDP Deflator is a comprehensive measure of inflation that tracks the prices of all new, domestically produced, final goods and services in an economy. It is the ratio of Nominal GDP to Real GDP.

Correct answer: Exports become less competitive as they grow costlier abroad

When domestic inflation is higher than that of trading partners, domestic goods become relatively more expensive. This makes exports less competitive in the global market, potentially leading to a trade deficit.

Correct answer: The overall inflation figure covering all items in a price index

Headline inflation is the total inflation in an economy, including volatile commodities like food and energy. It is the number typically cited in news reports and most familiar to the general public.

Correct answer: Money Supply

In the equation, M stands for Money Supply, V for Velocity of money, P for average Price level, and T for Volume of Transactions. The theory suggests that the money supply has a direct relationship with the price level.

Correct answer: A slow, predictable rise in prices, typically between 1% and 3%

Creeping inflation is low-level inflation that is considered normal or even healthy for a growing economy. It encourages consumers to buy now rather than wait for prices to fall.

Correct answer: Bottleneck Inflation

Bottleneck inflation occurs when supply falls drastically while demand remains at the same level. This is common in developing economies with infrastructure constraints or seasonal agricultural fluctuations.