Inflation is defined as – ‘a general
increase in prices levels’
 The government tries to measure inflation each month by
pricing a basket of goods that attempts to copy spending by
an average family on average income. The main measure of
inflation is the CPI – the Consumer Prices Index
 The ‘basket of goods’ includes food, travel, holidays,
insurance, clothes, electrical goods, furniture, and leisure
activities like cinema tickets. The government collects the
prices of the basket of goods each month.
 There are in total 650 goods in the basket – and they do
change over time. Some of the latest new goods added to
the basket are smart phones and apps, and dating agency
fees!
Inflation History
The chart above shows UK inflation for the last 10 years. Although
some of the peaks look high, inflation has only been above 5% for
1 month, and the average rate has been around 3%.
 The Bank of England has a short video on the history of inflation - link
UK inflation in the 1970s
25
20
15
10
5
Compare the UK’s low inflation of the last ten years, against
the inflation levels seen in the 1970s. Starting at around 6%
in 1970, by 1976 inflation had increased to above 20%!
Dec-79
Aug-79
Apr-79
Dec-78
Aug-78
Apr-78
Dec-77
Aug-77
Apr-77
Dec-76
Aug-76
Apr-76
Dec-75
Aug-75
Apr-75
Dec-74
Aug-74
Apr-74
Dec-73
Aug-73
Apr-73
Dec-72
Aug-72
Apr-72
Dec-71
Aug-71
Apr-71
Dec-70
Aug-70
0
Why high levels of inflation are bad
 Higher prices of UK goods mean we export less – so jobs
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are lost.
Firms invest less, meaning less jobs in the future.
Goods made abroad become less expensive compared to
UK made goods, so imports increase – more jobs lost.
Unless workers have pay increases at least as high as
inflation then their standard of living will fall.
High inflation often means high interest rates – people
may not be able to repay mortgages, so lose their homes,
and higher borrowing costs can mean firms can go bust.
People with savings find that the spending power of savings
falls - so they become poorer.
Hyperinflation
 Just occasionally inflation gets really out of hand, and
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prices start rocketing up – prices may double in a year,
a month or even a day!
In Germany in 1922-23 prices went up more than a
little.
Inflation in the year to June 1922 was 600%
Over the next year it increased to 18000%
And by the end of 1923 prices of goods were 1 million
times higher than a year earlier – if this were to happen
in the UK a loaf of bread would cost a £1m, a litre of
petrol £1,300,000, an iPad £400,000,000.
Going shopping in Germany 1923
Burning money
to stay warm
How does the government control
inflation?
 The government has an inflation target of 2%.
 To keep inflation around this level, it asks the Bank of
England to change interest rates, according to
economic conditions.
 Prices increasing - interest rates up.
 Prices falling - interest rates down.
 This system has worked quite well for the last 15 years,
but there are problems at the moment – to find out
more see the notes and PowerPoint on Interest Rates.