Types of Inflation by Richard_Cataman

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									AHMET BAYRAKTAR & CENGIZ SAATCIOĞLU
2001461033            2000461159


          INFLATION AND IMF STABILIZATION PROGRAMMES IN TURKEY
  WHAT IS INFLATION?
   Simply put, inflation is a situation in the economy where, there is more money chasing less of goods and services. In other words, it
means there is more supply/availability of money in the economy and there are less of goods and services to buy with that increased
money. Thus goods and services command a higher price than actual as more people are willing to pay a higher value to buy the same
goods. In this inflationary situation, there is no real growth in the output of the economy per se. It’s simply more money chasing few
goods and services.
   THE BASIC TYPES OF INFLATION
   Demand-Pull Inflation
Demand-pull inflation places responsibility for inflation squarely on the shoulders of increases in aggregate demand. This type of inflation
results when the four macroeconomic sectors (household, business, government, and foreign) collectively try to purchase more output that
the economy is capable of producing.
         In terms of the simple production possibilities analysis, demand-pull inflation results when the economy bumps against, and
          tries to go beyond, the production possibilities frontier. Then end result is inflation.
         In the more elaborate aggregate market analysis, demand-pull inflation results when aggregate demand increases beyond
          aggregate supply creating economy-wide shortages. As with market shortages, the price (or price level) rises. Then end result is
          inflation.
   Cost-Push Inflation
Cost-push inflation places responsibility for inflation directly on the shoulders of decreases in aggregate supply that result from increases
in production cost. This type of inflation occurs when the cost of using any of the four factors of production (labor, capital, land, or
entrepreneurship) increases.
         In terms of the production possibilities analysis, this means that the production possibilities frontier is shrinking closer to the
          origin, causing it to bump down against the aggregate demand. Then end result is inflation.
         In the aggregate market analysis, aggregate supply decreases to less than aggregate demand creating economy-wide shortages.
          As with any market shortages, the price (price level) rises. Then end result is inflation.

The Inflation Rate and the Price Level
The inflation rate is the percentage change in the price level. The formula for the annual inflation is

                             Current year’s      Last year’s
                              Price level          Price level
         Inflation rate
                                  Last year’s price level

    WHAT ARE THE WAYS OF MEASURİNG INFLATION?
    Consumer Price Index (CPI) -- This measures the consumer prices of a basket of commodities in different cities.
    Wholesale Price Index (WPI) -- This measures the different prices of a basket of commodities in the wholesale markets. The basket
is broadly made up of Primary products, Fuel products, and manufactured products.
    GDP Deflator --This is used to adjust measure of gross domestic product for inflation.


   CAUSES OF INFLATION
   Inflation may be caused by an increase in the quantity of          money    in circulation. This has been seen most graphically when
governments have financed spending in a crisis by printing money excessively, often leading to hyperinflation where prices rise at
extremely high rates. Another cause can be a rapid decline in the demand for money as happened in Europe during the black plague.
The money supply is also thought to play a role in determining levels of more moderate levels of inflation, although there are
differences of opinion on how important it is. For example,      Monetarist economists believe that the link is very strong; Keynesian
economics      by contrast typically emphasize the role of aggregate demand in the economy rather than the money supply in
determining inflation.
A fundamental concept in such Keynesian analysis is the relationship between inflation and unemployment, called the Phillips
curve.    This model suggested that price stability was a trade off against employment. Therefore some level of inflation could be
considered desirable in order to minimize unemployment. The Philips curve model described the US experience well in the 1960s, but
failed to describe the combination of rising inflation and economic stagnation (sometimes referred to as stagflation) experienced in the
1970s.
Another Keynesian concept is the natural gross domestic product, a level of GDP where the economy is at its optimal level of
production. If GDP exceeds its natural level, inflation will accelerate as suppliers increase their prices. If GDP falls below its natural
level, inflation will decelerate as suppliers attempt to fill excess capacity.


    Is Inflation Good For The Economy?
    Yes and No. Yes because Inflation helps producers realize better margins. This incites them to do better and produce more. No because
it reduces the buying power of the consumer in real terms.

   MAİN MACROECONOMIC STABİLİZATİON POLICY TARGETS
REAL GDP GROWTH: Keeping real GDP growth steady helps keep our balance of trade with the rest of the world steady and enables
us to consume what we have produced and avoid a buildup of international dept interest.
INFLATION: Keeping inflation steady also helps keep the value of the dollar abroad steady. Other things being equal, if the inflation
rate goes up by 1percantage point, the dollar loses 1 percent of its value against the currencies of other countries. Large and unpredictable
fluctuations in the foreign exchange rate make international trade and international borrowing and lending less profitable and the limit the
gains from international specialization and exchange. Keeping inflation low and predictable helps avoid such fluctuations in the exchange
rate and enables international transactions to be under taken at minimum risk and on the desired scale.
   What is IMF?
   The IMF is an international organization of 183 member countries, established to promote international monetary cooperation,
exchange stability, and orderly exchange arrangements; to foster economic growth and high levels of employment; and to provide
temporary financial assistance to countries to help ease balance of payments adjustment.

    The origins of IMF
    The IMF was conceived in July 1944 at a United Nations conference held at Britton Woods New Hampshire, U.S.A when
representatives of 45 governments agreed on framework for economic cooperation designed to avoid a repetition of the disastrous
economic policies that had contributed to the great depreciation of the 1930’s. And IMF came into existence in December 1945, when the
first 29 countries signed its “Articles of Agreement”.
At the same time as the IMF was created, the International Bank For Reconstruction and Development more commonly known as the
World Bank, was set up to promote long-term economic development, including through the financing of infrastructure projects, such as
road building and improving water supply.

    IMF Stabilization Programs
    When the IMF was founded in 1944, it was assumed on Keynesianism. Conditions in the countries borrowing from the IMF were
unusual weak: fiscal and external imbalances were large, output was often falling, and inflation was high. Concerned above all the avoid
inflation, budget deficits and trade deficits, government kept interests rate high, spending low and exports out. These circumstances posed
considerable challenges on the Fundamentals of the IMF adjustment programmers and the IMF’s programs dependent on the supply-side
policies instead of Keynesianism. The purposes of these programs are to secure immediate improvements in external finances as part of
the process of establishing conditions for greater efficiency, saving, investment and growth, over the long-term. Nevertheless, these
policies drastically reduced economic activity.
    After that the new crew (Stiglitz) of IMF economists with one prescription for all problems: privatize, stabilize and liberalize. It
includes these policies:
          Removing restrictions on foreign investments in local industry
          Cutting tariffs, quotas and other restrictions
          Devaluing the local currency for making exports more competitive
          Privatizing state enterprises
          Reducing wages or wage increases to make exports more competitive
          Undertaking a deregulation program to free export
          Reorienting the economy toward exports

     Stabilization Programs for Turkey
     Experiences show that motivated stabilization programs were successful because they created major discontinuities in the terns of
main macroeconomic variables. Inflation can be lowered quite easily with income policy, but to keep it down requires fiscal restraint,
both in terms of increasing tax revenues as well as cutting expenditures.
     Turkey and the IMF negotiated stabilization programs many times because of our crises. The goals of the programs were “to reduce
inflation”, “to ensure sustainable fiscal position” and “to raise the sustainable level of growth”. Considering that all the previous IMF
agreements failed to lead Turkey to sustained economic growth and crises went on.
     The IMF required Turkey to reduce its fiscal deficit (the result of financing a bloated state sector through high interest deficit
spending) by increasing taxes. The higher taxation slowed the economy, leading the IMF purpose devaluing the lira to simulate export for
economic growth. Turkey complied with IMF loan conditions to reduce its fiscal deficit, began privatizing state corporations and utilities,
and established a “crawling peg” to reduce inflation.
      Assured of a predictable exchange rate under the peg, the banking sector had taken advantage of easy profit opportunities by
borrowing foreign currency at low interest rates in order to buy government debt at much higher interest rates. (This typical reaction to the
peg was also a factor in the Mexican and Asian financial crises.) And when the peg collapsed, the already weak banking system was felt
with a drastically increased foreign currency debt. And countries (as Turkey) which practiced “peg”, were exposed by inflation because of
weak banking system. That is to say government could not practice monetary policies against inflation.
ENVER AKBAŞ 2001471003

INFLATION AND IMF STABILIZATION PROGRAMME IN TURKEY
INFLATION
Iflatıon is an increase in the general level of prıces.

TYPES OF INFLATION
Demand-Pull Inflation
Demand-pull ınflatıon occurs when average prices rise because aggregate demand grows excessively
relative to aggregate supply.When the demand increases the prices are rising.Economists are nearly
unanimous in believig that inflation occurs when our demands for goods grow faster than our capacity
to produce them.
Cost-Push Inflation
When a significantproportion of markets experience restrictions on supply, we say that there is cost-
push pressure.The resulting inflation is cost-push inflation. In cost-push inflation prices rise because of
increaese in supply or leftward shifts in supply.

INFLATION RATE
To calculate the rate of inflation, we use a price index that measures the aggregate price level relative to
a chosen base year.The inflation rase is computed as the percentage rate of change in the price index
over a given period.There are different prise indexes for different bundles of goods.
The Producers Price Index (PPI)
This is an index or ratio of a composite of prices of a number of important raw materials, such as steel,
relative to a composite of the prices of those raw materials in a base year.It does not correctly measure
actual inflation, but it does give an early indication of which way inflation will likely head since many
of the prices that make it up are the prices used as inputs in the production of other goods.
GDP Deflator
The total output deflator or GDP deflatoris an index of the price level of aggregate outputor the average
price of the components in total output or GDP relative to a base year.It is the inflation index
economists generally favor because it includes the widest number of goods.Unfortunately, since it is
difficult to compute, it is published only quarterly and with a fairly substantial lag.

Consumer Price Index (CPI)
The CPI measures the retail prices of a fixed “market basket” of several thousand goods and services
purchased by households.Each of the goods and services is given a weight in the index in proportion to
its importance in the market basket.
              Inflation rate (t) = CPI (t) – CPI (t-1) x 100
                                           CPI (t-1)

THE COSTS OF INFLATION                                               Money loses its value
People lose confidence in money as the value of savings is reduced. This is particularly the case with
rapid inflation.
Inflation can get out of control
Price increases lead to higher wage demands as people try to maintain their living standards.
Businesses then increase prices to maintain profits and so it goes on.
Consumers and businesses on fixed income lose out
They lose out because the real value of their incomes falls.
Employees in poor bargaining positions lose out
People in low paid jobs with little or no trade union protection.
Inflation favours borrowers at the expense of savers
This is because inflation erodes the real value of existing debts. Also the rate of interest on loans may
not cover the rate of inflation.
It disrupts business planning
Although businesses are aware of what has happened to prices in the past, they cannot be certain what
ill happen in the next few months and years. Budgeting becomes difficult and this may affect
investment.

IMF STABILIZATION PROGRAMMES IN TURKEY
What is IMF?
The IMF is an international organization of 183 member countries, established to promote international
monetary cooperation, exchange stability, and orderly exchange arrangement; to foster economic
growth and high levels of employment; and to provide temporary financial assistance to countries to
help ease balance of payments adjustment.

STAND-BY AGREEMENT WITH IMF IN TURKEY
As the Staff Monitoring Agreement signed with the IMF is about to turn to a
Stand-by Agreement over a three year program Turkey has gripped the chance to
complete a disinflationary program successfully. During this disinflationary period
which might be claimed to be continuing since the beginning of 1998 it is a must to
reorientate various policies and to lay the foundations of the framework which will be
adopted in the end of the following 3 years. Since monetary policy is a vital part of this
policy bunch in the new era to come it is important for the Central Bank to devise a
frame to detect the outcomes of its policies. In this perspective constructing a core
inflation definition is essential.

								
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