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Micro Economics Paper

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Micro Economics Paper

Inflation is when the price level rises in the economy, and the purchasing power of

money decreases. It has been an area of concern for more than a hundred years in the United

States. The CPI, established in 1913, is an essential inflation-determining factor. The article

López-Salido et al. provides an overview of inflation and also examines how different economic

epochs and policy actions affected the American experience of inflation. This paper will examine

further and discuss the ideas presented in the article by applying microeconomic concepts,

determining the nature of the economic environment that surrounds the CPI, and the impact of

past inflation trends on future economic stability.

The Market for Consumables and Services

The consumer market in the U. S. is vast. It covers almost all sectors, such as food,

apparel and clothing, housing and related services, medicine, and other personal and household

services. Using the Keynesian approach, it is easy to identify that aggregate demand depends on

consumer income, preferences, and expected future prices. Fixed costs have a direct impact on

aggregate supply, and they include production costs, technology, and input prices. In the current

century, the forces have shifted and transformed due to the economy's growth, the adoption and

innovation of technology, and globalization (López-Salido et al., 2024). For instance,

technological advances, such as the Internet, have shaped customers' buying behavior, shifting

the demands of products and the suppliers’ capabilities. The consumer goods market mainly has

monopolistic competition features since many businesses compete to provide differentiated

products based on various quality and branding appeals and services (López-Salido et al., 2024).

It offers a high degree of product differentiation and incentive growth but also makes the prices

sensitive to changes in cost and demand. For instance, the smartphone market is an excellent
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illustration of the monopolistic competition theory: today, numerous brands for the same kind of

devices differentiate their products by providing specific features and striving to gain as much

market share as possible.

Factors Affecting the Cost of Producing Consumer Goods

Fluctuations in the cost of manufacturing consumer goods have been a striking paradigm

in the last hundred years. One of the most essential factors of cost control is the cost of raw

materials, which largely determines the cost of production. The price of crude oil, metals,

agricultural products, and raw materials for manufacturing goods quickly affects the costs. For

instance, during periods characterized by high oil prices, prices of factors of production,

especially transportation costs, increase, causing an increase in total costs (López-Salido et al.,

2024). For example, innovation in functions such as automation and supply chain management

has significantly lowered the cost of production of many products. These costs can also vary with

extraneous factors, such as the increase in oil price or the application of trade tariffs.

Performance, the rate of output per unit of input used for production, has been significant in

determining production costs. Technological improvements, better management, and capital

investment have also helped improve productivity (López-Salido et al., 2024). Nevertheless,

productivity growth rates have also been different for different periods and sectors, indicating the

given inflation trends in the context of the CPI.

Demand for Consumer Goods

Consumption demand is mainly determined by consumer income. With rising household

incomes, higher income levels will increase after meeting the necessities, leading to increased

purchasing power. Normal and inferior goods express this relationship. As income increases, the

demand for everyday goods is known to increase, while this is not the same for inferior goods,
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which record a decrease in demand (López-Salido et al., 2024). Consumers take an essential

position in demand due to their changing tastes and preferences. These preferences may result

from culture, trends, Ad-creative persuasion, or new product design and performance trends. For

instance, advancements in technology and growth in internet use have changed market trends and

allowed for the acceptance of digitized products and services.

Substitute and complementary goods can affect the demand through availability and

prices. An increase in the price of a substitute good will lead to increased demand for the original

good, such as coffee and tea. Likewise, a downward change in the price of a complementary

good (for instance, printers and ink cartridges) can enhance demand for the related product.

Policies adopted by the government, including taxation, subsidies, and political actions, directly

and indirectly influence demand. For instance, subsidies for renewable energy products will

promote their use in the market, while taxes on cigarettes may decrease their use.
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Analysis of Historical Inflation Trends Using Demand and Supply

In World War I, inflation increased because people needed products to support the war,

and few products were available to meet their needs. During this period, there was a rightward

shift in the aggregate demand curve, resulting from competition between the government and

consumers for resources (López-Salido et al., 2024). The reallocation of resources for war

production limited supply and pulled the aggregate supply curve to the left, driving prices up

significantly. After World War 1, the economy shifted from war production to consumption;

during this period, deflation was felt (López-Salido et al., 2024). Also, due to the decreased

wartime spending, the aggregate demand curve shifted leftward, whereas the aggregate supply

curve shifted rightward as production returned to normal. On the other hand, the great depression

saw a fall in both the aggregate demand and supply, leading to deflation for quite some time

(López-Salido et al., 2024). Higher unemployment and lesser consumer expenditure further

displaced the demand side curve to the left; this was complemented by disruption to the supply

side as bankruptcies and scaled-down production also shifted this curve.

The 1970s had “stagflation,” high inflation, and slow economic growth triggered by oil

price hikes and supply shocks. Because of the increase in production costs, the aggregate supply

curve shifted to the left, while the aggregate demand continued to be high, leading to inflation. In

1980, the central monetary policies involving high interest rates were to shift the demand side to

the left to control inflation, reducing the price level but leading to a recession (López-Salido et

al., 2024). The period of stable inflation in the early 21st century was interrupted by the Great

Recession of 2008, which stopped inflation by reducing aggregate demand. The decreased

consumer spending and investment led to a leftward aggregate demand curve shift. Further,
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economic recovery and monetary policy adjustments pulled the demand curve rightward,

enthroning price stability with moderate inflation in the 2010s. Therefore, the future price

evolution will reflect global supply chain disruptions, energy price changes, and fiscal policies.

Future Inflation Trends

The trajectory of inflation will thus depend on the level of economic growth, monetary

policy, and any external shock factors. The current inflation outlook is relatively flat, but

vulnerabilities arise from supply chain disruptions, oil prices, and fiscals. Other factors that will

also be considered include technology and the labor market (Taylor & Barbosa-Filho, 2021).

New factors in inflation modeling include the effects of climate change and geopolitical risks.

Constant surveillance and policy flexibility shall be crucial in managing these unknowns and

maintaining moderate inflation rates in the subsequent years. Given these dynamics, the CPI

remains relevant in policymaking and economic stability.

Conclusion

The trends of the CPI and the pattern of inflation in the historical context indicate how

the forces of demand and supply, coupled with technological advancement and policy, shifted

over the 20th century. These inflation trends have tested a few economic up and down phases,

such as the wars- World War I and II, which saw high inflation rates due to scarcities and

increased demand, the great depression that witnessed deflation, and other post-war adjustments

as witnessed in the period after the Second World War. That the bust was squeezed between the

two oil shocks in the 1970s and the subsequent stabilization in the 1980s through aggressive

monetary policies emphasizes the importance of policy interventions in ridding economies of

inflation. Inflation has remained low for some periods, with occasional fluctuations observed. A

clear example of this is the Great Recession of 2008, which exposed tendencies of inflammation
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to fluctuate due to shocks. The factors that will affect future inflation trends for the CPI as it

marks its second centennial are; Supply chain integration and globalization, price of energy,

fiscal policies, international monetary fund, and monetary policies. To achieve monetary policy,

the primary objectives of policymakers are to maintain price stability and see economic growth

in an uncertain global economic environment.

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References

López-Salido, D., Markowitz, E. J., & Nelson, E. (2024). Continuity and change in the Federal

Reserve’s perspective on price stability. Finance and Economics Discussion Series,

(2024-041), 1-65. https://www.federalreserve.gov/econres/feds/files/2024041pap.pdf

Taylor, L., & Barbosa-Filho, N. H. (2021). Inflation? It’s import prices and the labor share!.

International Journal of Political Economy, 50(2), 116-142.

https://www.tandfonline.com/doi/pdf/10.1080/08911916.2021.1920242?

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