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THE PROBLEM OF INFLATION

Of the large number of definitions of inflation to be brought forward by economists, the simplest and most widely understood is that inflation is a period of rising prices. Further consideration though, reveals that in the United Kingdom some prices have reduced since the Second World War, the examples are color television sets, calculators, etc. Does this mean that there is no inflation? The answer, obviously, is ’’no’’; the measurement of inflation depends upon the general price level and it is perfectly possible for the general price level to rise while specific prices fall.

The general price level must therefore be a form of average. The normal m e- thod of calculation is by the use of price index. The best known price index, and the one usually chosen to indicate the level of inflation, is the Index of Retail Prices.

Further points arising from the index are as follows:

The Inflation Rate

The inflation rate can be calculated by dividing the change in the index of retail prices over the last year by the starting index, and multiplying the result by

100. If we analyze the following table, we can make any calculations.
	General Index of Retail Prices in the United Kingdom
Year	Jan.	Feb.	Mar.	Apr.	May	June
1977	172.4	174.1	175.8	180.3	181.7	183.8
1978	189.5	190.6	191.8	194.6	195.7	197.2
1979	207.2	208.9	210.6	214.2	215.9
Year	July	Aug.	Sept.	Oct.	Nov.	Dec.
1977	183.8	184.7	185.7	186.5	187.4	188.4
1978	198.1	199.4	200.2	201.1	202.5	204.2
1979

The calculation for M ay 1979 is: Inflation Rate =

The purchasing power of the pound

Until the middle 1960s the rate of inflation was relatively low: 2-3 per cent per annum. So-called creeping inflation took place. Economists found no reason for alarm in this. In fact, after the period of depression between the wars, when for a time prices fell, some commentators were enthusiastic over rising prices. It became generally accepted in economic literature that a period of gradually rising prices was a good thing since it made businessmen optimistic about their chances of profit mak-

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ing. Inflation was welcomed as a sign of growth and prosperity, and no sense of danger prevailed since it was gradual. In more recent years an annual rate of 10 per cent has looked desirable but it highlights an obvious danger: when is gradual inflation no longer gradual? M ost people would agree that 25 per cent per annum is too high a rate to be tolerable. But how much could be desirable? Accept inflation as a small friend and it can easily become a large and difficult enemy to deal with. The task is made more difficult by widespread disagreement over the causes of inflation.

Economists of the nineteenth and early twentieth centuries were convinced that a close link existed between the amount of money circulating within an economy and the level of its prices. Increases in the quantity of money were likely to lead to increases in prices. It was expressed in the formal way by the American economist Irving Fisher, using what became known as the Fisher Equation. The modern theorists are still maintaining that the quantity of money has a direct influence upon prices. However, one of the major problems is the uncertainty surrounding the time period which elapses between an increase in money and an increase in prices. Six months to a year and a half is not accurate enough.

During the years when monetarism was out of fashion, changes in the level of aggregate demand were used to explain why inflation occurred. Called demand inflation it takes place when supply cannot respond (i.e. when most of all resources are already employed) and leads to a rise in prices instead of to extra output. Cost inflation assumes that the collective upwards “push” of costs is sufficient to raise the general level of prices even though there has been no noticeable increase in the level of aggregate demand. In order to grasp the idea of cost inflation it is necessary to distinguish between costs in total and costs per unit of output. For example, wage rates – the rates paid to each employee – can rise and yet the wage element in each unit of output can still fall, provided that output per man rises. In such a situation any extra payments are provided for by extra sales. Then inflation is not fueled, since more output is forthcoming and costs per unit should not rise. However, in markets for labor resources the granting of one group often leads to demands that such deals be extended to other groups even though no extra productivity is fort h- coming. And that is a source of cost inflation. Yet another explanation for inflation, bottleneck inflation, is a close relative of both demand and cost inflation. Bottleneck inflation assumes rising costs and rising prices long before all resources are fully employed. The basis for this assumption is that specific shortages occur in some areas – bottleneck areas – of the economy where demand is unusually heavy.

The effects of inflation can be classified at three levels: international, insular and personal. Let us examine each in turn.

International Aspects of Inflation

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By definition, trading nations function within an international community. In the international field, inflation rates have to be identical between all trading partners if trading flows are to remain undisturbed. In a world where most governments are making efforts to reduce their domestic rates of inflation, the rate of inflation in a country has come to have particular international significance. The community which lives by trading in finance regards its government’s record with regard to inflation rate as an indication of its ability to control the domestic economy. When inflation rates exceed the tolerances allowed for by a government, selling of that country’s currency often takes place. The currency consequently depreciates. The effect of this is to make inflation even worse, especially if the country concerned is a major importer of raw mat e- rials and semi-finished goods. Inflation gets worse because, when a currency floats downwards or is devalued, import prices rise. When disparate rates of inflation exist between nations, cooperation in the monetary field becomes extremely difficult.

Insular Aspects of Inflation

Consumers soon become accustomed to inflation. The habits of saving for consumption are soon forgotten. As far as consumers are concerned the immediate purchase of goods, especially consumer durables, is the rational course – they have developed inflationary expectations. This means that they expect the present inflation to continue, and perhaps, even to get worse. In such a situation the obvious line of action is to buy now before the price rises. Of course, that only fires inflation. The other aspect is that when inflation persists it becomes increasingly difficult for bus i- nessmen and investors to calculate real rates of return on capital expenditures.

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Personal Aspects of Inflation

Inflation influences the behavior of individuals within an economy. Those who depend upon fixed sources of income find that the real value of their income flow is diminished. But there are others who can take advantage of infl ation. In times of inflation fixed debt tends to diminish in significance. Hence those who have mortgages find that their incomes rise but the repayments do not and the real cost of borrowing diminishes. Vast numbers thus have at least some vested interest in continued inflation. Yet another way in which inflation affects the behavior of individuals is that it encourages them to find inflation-proof outlets for accumulated funds. Those commodities in fixed, or almost fixed, supply tend to increase in price ahead of the general rate. Such “hedges against inflation” enable a person to escape the worst rigors of an unfavorable economic climate.

The above gives the impression that causes of inflation are simple to understand and easy to regulate. This is far from the truth. In practice many governments seem powerless to reduce inflation to manageable rates. This is probably because real-life inflations are caused by a variety of factors which almost by chance coincide.

TAS KS

I.Answer the following questions:

1.What is inflation?

2.How are prices increases measured?

3.Have rising prices always been regarded as a threat to the stability of an economy?

4.Why is inflation now a disadvantage?

5.What might be the consequences of inflation?

6.Are there no explanations for inflation?

7.Is inflation inevitable?

II.Match the terms with their definitions:

1.	Inflation	A. the kind of inflation that is caused by rising costs of labour and
		materials, not by increased demand
2.	Inflationary	B. the lowering of the quality of products in general in order to pre-
gap		vent, and soto hide, an increase in price
3.	Creeping	C. a rise in the general level of prices
inflation
4.	Demand	D. a slow rise in the level of prices of below 2 or 3 per cent per
inflation		year
5.	Cost	E. inflation that would be much greater if the government were to
inflation		remove controls on prices and wages

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F. that part of government spending which is not covered by taxes or borrowing from the public, but is met by issuing new paper money

G.an extreme form of inflation, when the money supply is being increased very rapidly, resulting in an increase of over 20% of the price level annually

H.the kind of inflation caused by an excess of demand over supply resulting in a decrease in the value of mon ey

I.a state of inflation that gets worse and worse, because higher prices result in demands for higher wages; and higher wages

increase costs and so cause higher prices

III.Explain the following terms:

1.the level of inflation

2.the output per man

3.consumer durables

4.the government’s record

5.inflationary expectations

6.inflation-proof outlets

7.hedges against inflation

IV. Render the text in English:

Одним из типов инфляции является сдерживаемая инфляция. Она св я- зана с ситуацией, когда спрос превышает предложение. Но влияние на цены путем использования таких инструментов, как контроль за ценами и нормир о- вание (rationing), минимально. Необходимо отметить, что контроль за ценами не связан с причинами инфляции. Это просто попытка сгладить (подав ить) симптомы. Избыточный спрос все равно существует, и он будет проявляться в виде очередей, списков и, почти неизбежно, в черном рынке.

V. Give a summary of the text.

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BANKING

Banking centers around money and financial services. Virtually any activity involving money or advice about financial matters is undertaken by all the commercial banks. The immediate service offered by the bank is the receipt for deposit of coins, notes and cheques and the cashing of cheques, through current accounts. Coins and notes in circulation have the status of “legal tender” that is to say they must be taken in payment of a debt although the extent to which this applies in the case of coins is deliberately restricted for the sake of convenience.

The most common means of payment, particularly for significant sums of money, is a cheque since it is both safer and more convenient than using cash. However, it is not legal tender and creditors can refuse to accept it if they wish. Normally both national cheques and traveler’s cheques are readily negotiable if the bearer has some means of proving his identity and the creditor can be sure that the cheque will be “honored”. To assist the use of cheques banks now provide their customers with bankers cards which, when used in association with a cheque, will guarantee it up to a stated maximum. If a customer wishes to make payments of large amounts of money by cheque and is not known to the creditor, then he may obtain a “cert ified cheque” from his bank. Such a cheque is signed by the bank and therefore payment is guaranteed.

Those trading overseas, or in conditions where there may be a significant time lapse between sending out goods and their receipt by the customer, may use a Bill of Exchange as a means of payment. This is really a post -dated cheque which assures the creditor payment but also gives the buyer opportunity to inspect the goods before the transaction is completed. Those whose credit standing is unknown may have to get the Bill “accepted” before a creditor will take it. Such a p rocess guarantees payment and most work of this kind is undertaken by the merchant banks. Because Bills are post dated creditors may have to wait some time for their money. They can overcome this problem by endorsing the Bill and then either discounting it with a Discount House or a bank or passing it on to another trader in settlement of a debt of their own. By the time it comes to maturity a Bill may have passed through several hands and on each occasion it must be endorsed. The commercial banks participate in this activity in two ways: in part by lending money to the discount houses and in part by discounting bills for their own customers.

CENTRAL BANKING: AN OVERVIEW

A major sector of any modern monetary system is the central banking sy s- tem, which is imp ortant to the functioning of the private economy and the fiscal operations of the national government. Central banking is an activity separate from ordinary commercial banking, because a central bank usually has few transactions with private customers, dealing primarily with commercial bank and with the national government. The roots of the central banking system go back more than two centuries. Nevertheless, central banks as we know them today are relatively recent development. Like electric power and the automobile, central banks are pretty much the products of the twentieth century. For example, at the turn of this century no central bank existed in any country of Western Hemisphere. The central banking

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system for the United States (Federal Reserve System) was created late in 1913, and the Bank of Canada appeared in 1934.

The characteristics of the Modern Central Bank. It is difficult to give a brief definition of a central bank that is both comprehensive and accurate. The nature of a central bank depends largely on its function, which vary according to time and setting. Essentially, a modern central bank performs at least three functions: managing the nation’s monetary system, serving as a bankers’ bank, and acting as fiscal agent for the national government.

Monetary control. The most important characteristic of the modern central bank is its control over the monetary system for facilitating the achievement of national economic goals. In exerting this control, the central bank regulates the supply, cost, and availability of money and credit. M onetary control is enhanced by the central bank’s monopoly on the banknote issue and its ability to create and destroy monetary reserves by its lending and “investing” activities. Since monetary control is a prerogative of the sovereign government, the central bank is a public service organization that emphasizes the national interest rather than its own profit or welfare.

Bankers bank. Being a bankers’ bank implies that the central bank provides services to the commercial banking system similar to those that the commercial banking system performs for individuals and business firms. Commonplace services that nevertheless promote the smooth operation of the monetary and banking systems include, for example, the clearing and collecting of checks, distributing coin and paper currency to commercial banks, and providing some degree of supervision and regulation over the activities of commercial banks.

Fiscal agency function. In its role as a fiscal agent, the central bank serves as a banker for the national government. Here the central bank receives, holds, transfers, and disburses funds of the central government.

Central and commercial banking functions involve widely differing obje c- tives and methods, and therefore these functions are kept separate. The central bank orients its policy primarily toward the attainment of national economic objectives, whereas the commercial banking system is essentially profit -motivated.

TAS KS

I.Answer the following questions:

1.Why is the central banking system a major sector of any monetary system?

2.How long is the history of modern central banking?

3.What are the functions of a central bank?

4.What does the nature of a central bank depend on?

5.What are the main distinctions between central and commercial banking?

II.Are the following statements true or false? Correct the false ones:

1. The object of central banks in the monetary field is to support the Government’s activities in other fields.

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2.Every bank issues its own notes.

3.Private individuals and businesses often deal with central banks.

4.Central bank is a bank officially appointed by law to work closely with the Government.

5.Commercial banks perform the duties of issuing and managing the country’s currency.

6.The commercial banking system is profit motivated.

III. Render the text in English:

Федеральная резервная система была создана в 1913 г. на основании закона, принятого Конгрессом. Наиболее важным органом в Fed является совет управляющих, находящийся в Вашингтоне, федеральный округ Колумбия. Совет состоит из семи членов, каждый из которых назначается на 14-летний срок президентом США. Совет возглавляется председателем, назначаемым из состава управляющих на 4-летний срок.

Fed – это банк банков. Коммерческие банки держат свои депоз иты в Fed и осуществляют платежи друг другу через перевод средств с этих депозитов. Fed устанавливает резервные тр ебования для всех банков.

Федеральная резервная система состоит из 12 округов, каждый из которых имеет свой резервный банк. Предоставляя совету материалы по анализу экономической ситуации в каждом из окру гов, банки тем самым держат совет в курсе событий, происходящих в стране.

IV. Fill in the blanks with proper words or word combinations:

board of directors	maximizing profit
public and private influences	top executive officers
Federal Reserve bank	stockholders
public welfare

The United States is divided into 12 Federal Reserve Districts, each containing a … . A total of 25 branches serve particular areas within the various districts. Blending … , the corporate organization of the Federal Reserve banks resembles that of commercial banks. Each Reserve bank is headed by a … who select the … . Basic differences as compared with commercial banks include the absence of powers held by … in private corporations and orientation toward enhancing … rather than … .

V. Give a summary of the text.

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LOANS IN THE UNITED KINGDOM

In the process of social production there can be saved up stocks of money, that are kept in the Treasury, or funds, that can be accumulated by large insurance comp a- nies, banks, pension funds as well as by private savers. These stocks could be used to make different loans. Sometimes the government lends this money to various programs in education, medicine, culture, construction, to support small business, etc., the interest rate to be paid being very low. We can instance a special program called Loan Guarantee Scheme aiming at supporting small business in the United Kingdom. At 3% interest the government guarantees 70% of the money lent by the bank to a busines s- man. M ore often the funds are used to earn extra profit. The interest rate is determined as the equilibrium price in the loan market, that is that part of the capital market which is concerned with the provision of medium-term and long-term loans to governments, commercial houses and industrial companies, or in the money market for very shortterm loans.

Thus, a loan is money lent on condition that interest will be paid at an agreed rate and that the amount lent will be repaid at an agreed time or in an agreed manner. There exist many types of loans in UK economy and each of them has its specific features.

Such loans as balloon and bullet are repaid irregularly. The balloon loan is a loan where the repayments are unevenly distributed throughout the life of the loan. The borrowers usually make larger repayments as soon as they have got a possibility to return money; the larger repayments are known as the “balloons”. When the borrower pays only interest during the life of the loan and then repays all the principal as the final repayment, the loan is called a bullet loan.

There exist loans on mort gage of property. You will pay only interest during the period of the flat loan, the amount borrowed being repaid at the end of the period in cash or by arranging another loan. The table loan is repaid by regular monthly installments, and each consists partly of interest and partly of some of the amount borrowed. Thus at the end of the period of the loan all the interest and the whole of the amount borrowed will have been paid off. The name “table” relates t o the table issued by building societies stating the amount of the monthly payments at various rates of interest and for various periods of loan. A building society can make the interest-only-loan to a retired person who pays only interest, leaving the principal to be repaid when the owner sells the house or when he dies.

A bank can lend money to a private person (personal loan) for the purpose of personal expenditure, such as payment of household bills or for buying consumption goods such as a motor car, boat, furniture, etc. Such loans are usually repayable by installments in less than two years and are often made without security; the rate is therefore high.

The hard and the soft loan is made by one country to another on condition that the borrower repays it in the lender’s currency (the hard loan) or the borrower’s currency (the soft loan).

There exist loan or state clubs and societies. A loan club is often a private club whose members, usually low-paid workers in a factory or office, pay regular amounts into a fund from which short-term interest-bearing loans are made to mem-

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bers who request them during the year. Fines are charged for late repayment, and interest is paid to members who deposit money with the club. On a certain date each year, usually just before Christmas, the entire fund is shared out among the members.

These are only a few examples of loans made in the United Kingdom.

TAS KS

I.Answer the following questions:

1.What stocks of money can be used to make loans?

2.What conditions should be taken into account to make loans?

3.When is the interest rate very high and when is it very low?

4.When do you pay only interest during the life of the loan?

5.What kinds of loans are made on mort gage of property?

6.Do employees earning low wages have any opportunity to borrow money?

7.Is it beneficial for a lender to make personal loans?

II.Match the terms with their definitions:

1.	Loan	A. the department responsible for the finances, the manage-
		ment of the monetary system, etc.
2.	Interest	B. the power of a business to earn profits
3.	M ortgage	C. a state of balance when the total demand is satisfied by
		the total supply
4.	Funds	D. a series of regular payments made under agreement in
		order to settle a debt
5.	Installment	E. an amount of money borrowed by an individual or a com-
		pany
6.	Treasury	F. the thing given as a security
7.	Equilibrium	G. a charge paid to a person or organization that has lent you
		money

H.amounts of money

III.Fill in each blank with one word from the box to illustrate typi cal collocations:

condition repayments		money	rates
interest	security	society	business	loan
1. to support		2. to pay
to run______		to sell_____
small		compound
3. to lend		4. to agree on
to borrow_____		to accept______
to deposit		to meet
5. to distribute		6. to arrange
uneven_______		to make________

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