Multiple Choice
In macroeconomics, the inflation rate is defined as the:
11. Unemployment and Inflation
Inflation and Consumer Price Index (CPI)
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In macroeconomics, typically low inflation (as measured by the Consumer Price Index, CPI) is a sign of which of the following?
A
A sustained increase in the money supply that is outpacing real GDP growth
B
Weak aggregate demand and a possible recessionary (negative) output gap
C
An overheating economy with strong demand and accelerating wage-price spirals
D
A negative supply shock (for example, a sudden rise in oil prices) that raises production costs
Verified step by step guidance1
Step 1: Understand the relationship between inflation and aggregate demand. Inflation, as measured by the Consumer Price Index (CPI), typically rises when aggregate demand in the economy is strong and outpaces aggregate supply.
Step 2: Recognize that low inflation often indicates weak aggregate demand. When demand is weak, firms have less pricing power, which keeps prices stable or growing slowly.
Step 3: Connect low inflation to the concept of a recessionary (negative) output gap. This occurs when actual output is below potential output, signaling underused resources and slack in the economy.
Step 4: Evaluate the other options: a sustained increase in money supply outpacing GDP growth usually causes higher inflation, an overheating economy leads to accelerating inflation, and a negative supply shock tends to cause cost-push inflation, not low inflation.
Step 5: Conclude that low inflation is most consistent with weak aggregate demand and a possible recessionary output gap, as this scenario explains subdued price increases due to insufficient demand pressure.
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Inflation and Consumer Price Index (CPI) practice set
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