Answer to Question #213190 in Macroeconomics for geoffrey

Question

1.    In Zambia, many firms import their raw materials that they use in their production processes. Over the months, the exchange rate has been depreciating thereby making these imported raw materials more expensive. In light of this, many economists have advocated for a switch from imported to local raw materials to avoid inflation.

a)    What type of inflation is associated with the scenario? (Justify your reasoning)

b)   List and explain the 3 other main factors that may cause the inflation above.

c)    List and explain three effects of inflation.

Answer 1

Demand pull inflation

Foreign reserves and strong demand for foreign goods lead directly to exchange rate devaluations and, as a result, higher import prices. When the initial increases in the cost of imported products causes a wage-price spiral, the inflationary process will become self-perpetuating.

(b)Economic growth that leads to consumers spending behavior as they gain confidence.

Increase in government spending which improves the money circulation within the economy for exchange thus the demand products increases compared to the supply.

An increase in the demand for exports which results to devaluation of the currency used for exchange.

(c)Inflation leads to the rise in prices of products and services which affects the economy negatively.

Inflation reduces the purchasing power of the consumers which results to negative effects to the firms.

Inflation encourages consumers to stock up on items that longer time to lose their value as the value of money erodes overtime.