inflation

The overall general upward price movement of goods and services in

an economy (often caused by a increase in the supply of money), usually as
measured by the Consumer Price Index and the Producer Price Index. Over time,
as the cost of goods and services increase, the value of a dollar is going
to fall because a person won't be able to purchase as much with that dollar as
he/she previously could. While the annual rate of inflation has fluctuated greatly
over the last half century, ranging from nearly zero inflation to 23% inflation, the
Fed actively tries to maintain a specific rate of inflation, which is usually 2-3% but
can vary depending on circumstances. opposite of deflation.
Use inflation in a sentence
As the government began printing more money, the value of the dollar fell and the cost
of goods rose, thus causing inflation.

What is inflation and how does the Federal Reserve evaluate changes in the
rate of inflation?
Inflation occurs when the prices of goods and services increase over time. Inflation
cannot be measured by an increase in the cost of one product or service, or even
several products or services. Rather, inflation is a general increase in the overall price
level of the goods and services in the economy.
Federal Reserve policymakers evaluate changes in inflation by monitoring several
different price indexes. A price index measures changes in the price of a group of goods
and services. The Fed considers several price indexes because different indexes track
different products and services, and because indexes are calculated differently.
Therefore, various indexes can send diverse signals about inflation.
The Fed often emphasizes the price inflation measure for personal consumption
expenditures (PCE), produced by the Department of Commerce, largely because the
PCE index covers a wide range of household spending. However, the Fed closely tracks
other inflation measures as well, including the consumer price indexes and producer
price indexes issued by the Department of Labor.
When evaluating the rate of inflation, Federal Reserve policymakers also take the
following steps.

First, because inflation numbers can vary erratically from month to month,
policymakers generally consider average inflation over longer periods of time,
ranging from a few months to a year or longer.

Second, policymakers routinely examine the subcategories that make up a broad

price index to help determine if a rise in inflation can be attributed to price
changes that are likely to be temporary or unique events. Since the Fed's policy
works with a lag, it must make policy based on its best forecast of inflation.
Therefore, the Fed must try to determine if an inflation development is likely to
persist or not.

Finally, policymakers examine a variety of "core" inflation measures to help

identify inflation trends. The most common type of core inflation measures
excludes items that tend to go up and down in price dramatically or often, like
food and energy items. For those items, a large price change in one period does
not necessarily tend to be followed by another large change in the same direction
in the following period. Although food and energy make up an important part of
the budget for most households--and policymakers ultimately seek to stabilize
overall consumer prices--core inflation measures that leave out items with volatile
prices can be useful in assessing inflation trends

interest rate
The annualized cost of credit or debt-capital computed as the
percentage ratio of interest to the principal.
Each bank can determine its own interest rate on loans but, in practice, local
rates are about the same from bank to bank. In general, interest rates rise
in times of inflation, greater demand for credit, tight money supply,
or due to higher reserve requirements for banks. A rise in interest rates for
any reason tends to dampen business activity (because credit becomes more
expensive) and the stock market (because investors can get
better returns from bankdeposits or newly issued bonds than
from buying shares).

Use interest rate in a sentence

The interest rate of the loan was so high that the young couple was
unable to afford buying a new house of their dreams

Interest Rate = (Total Repayment Amount - Amount Borrowed) / (Amount

Borrowed)
Let's assume XYZ Company is considering building a new $50 million factory. If a bank
agrees to lend XYZ the $50 million dollars but requires XYZ to pay back $55 million at
the end of the year, we can calculate that XYZ will pay $5 million ($55 million repaid $50 million principal) to borrow the money. This translates to:
Interest Rate = ($5 million) / ($50 million) = 10% interest
Nominal Interest Rates vs. Real Interest Rates
Note that when people discuss interest rates, they're generally talking about nominal
interest rates. A nominal variable, such as a nominal interest rate, is one where the
effects of inflation have not been accounted for. Changes in the nominal interest rate
often move with changes in the inflation rate, as lenders not only have to be
compensated for delaying their consumption, they also must be compensated for the
fact that a dollar will not buy as much a year from now as it does today. Real interest
rates are interest rates where inflation has been accounted for

. Exchange Rate
An exchange rate is the current market price for which one currency can be exchanged
for another. If the U.S. exchange rate for the Canadian Dollar is $1.60, this means that 1
American Dollar can be exchanged for 1.6 Canadian dollars.
Terms related to Exchange Rates:

Short Rate

Bill of Exchange

Purchasing Power Parity

The price of one currency expressed in terms of another currency. For example, if the U
.S. dollar buys 1.40 Canadian dollars, theexchange rate is 1.4 to 1. Changes in exchang
e rates have significant effects on the profits of multinational corporations. Exchangerat
e changes also affect the value of foreign investments held by individual investors. For a
U.S. investor owning Japanese securities,a strengthening of the U.S. dollar relative to th

e yen tends to reduce the value of the Japanese securities because the yen value of the
securities is worth fewer dollars. Also called foreign exchange rate. See also devaluatio
n, fixed exchange rate, floating exchange rate, foreign exchange risk.

What is the relationship between inflation and interest rates?

Inflation and interest rates are linked, and frequently referenced in macroeconomics.
Inflation refers to the rate at which prices for goods and services rises. In the United
States, interest rates the amount of interest paid by a borrower to a lender are set by
the Federal Reserve (sometimes called "the Fed"). In general, as interest rates are
lowered, more people are able to borrow more money. The result is that consumers
have more money to spend, causing the economy to grow and inflation to increase. The
opposite holds true for rising interest rates. As interest rates are increased, consumers
tend to have less money to spend. With less spending, the economy slows and inflation
decreases.

The Federal Open Market Committee (FOMC) meets eight times each year to review
economic and financial conditions and decide on monetary policy. Monetary
policy refers to the actions taken that affect the availability and cost of money and credit.
At these meetings, short-term interest rate targets are determined. Using economic
indicators such as the Consumer Price Index (CPI) and the Producer Price
Indexes (PPI), the Fed will establish interest rate targets intended to keep the economy
in balance. By moving interest rate targets up or down, the Fed attempts to achieve
maximum employment, stable prices and stable economic growth. The Fed will tighten
interest rates (or increase rates) to stave off inflation. Conversely, the Fed will ease (or
decrease rates) to spur economic growth.
Investors and traders keep a close eye on the FOMC rate decisions. After each of the
eight FOMC meetings, an announcement is made regarding the Fed's decision to
increase, decrease or maintain key interest rates. Certain markets may move in advance
of the anticipated interest rate changes and in response to the actual announcements.
For example, the U.S. dollar typically rallies in response to an interest rate increase.