price stability

Examples of price stability in the following topics:

• Macroeconomics

  • Price stability occurs when prices remain largely stable and there is not rapid inflation or deflation.
  • Price stability is not necessarily zero inflation; steady levels of low-to-moderate inflation is often regarded as ideal.
  • These models rely on aggregated economic indicators such as GDP, unemployment, and price indices.

• Monetary Policy Goal

  • Price stability: Product prices communicate information to households and businesses.
  • Inflation is a continual increase in prices of goods, and services, and it erodes the value of money.
  • Interest rate stability is related to the stability of the financial markets.
  • The European Central Bank, on the other hand, has only one policy goal – price stability.
  • The ECB defines price stability as an inflation rate of 2% or less.

• Time Lags and Targets

  • Europe and Japan also emphasize price stability and low inflation rates.
  • If the Fed selected nominal GDP as an intermediate target, then the Fed would be focusing on price stability indirectly.
  • Commodity prices: Some economists suggested the Fed focus on commodity prices.
  • If an economy has over a 10% inflation rate, then most likely the central bank is increasing the money supply too quickly while the central bank pursues other targets not related to price stability.
  • Finally, a country with an independent central bank from government could experience low inflation rates because the central bank can focus on price stability and not help its government finance its budget.

• Market-Oriented Theories

  • Market-oriented theories of inequality argue that supply and demand will regulate prices and wages and stabilize inequality.
  • In a free market, prices are supposed to be regulated by the law of supply and demand.
  • When demand exceeds supply, suppliers can raise the price, but when supply exceeds demand, suppliers will have to decrease the price in order to make sales.
  • Consumers who can afford the higher prices may still buy, but others may forgo the purchase altogether, demand a better price, buy a similar item, or shop elsewhere.
  • Considering inequality, market-oriented theories claim that if left to the free-market, all products and services will reach equilibrium, and price stability will reduce inequality.

• Reasons for and Consequences of Shift in Aggregate Supply

  • In economics, the aggregate supply shifts and shows how much output is supplied by firms at different price levels.
  • It is the total amount of goods and services that firms are willing to sell at a specific price level in the economy.
  • When the curve shifts to the right, it causes an increase in the output and a decrease in the GDP at a given price.
  • The short-run aggregate supply curve is affected by production costs including taxes, subsidies, price of labor (wages), and the price of raw materials.
  • In the long-run the prices stabilize and the price level of the good or service increase in response to the changes.

• Markup Pricing

  • In cost-plus pricing, we use quantity to calculate price, but price is the determinant of quantity.
  • Firms which prefer stability use cost-plus pricing as a guide to price products in an uncertain market where knowledge is incomplete.
  • When products and production processes are similar, competitive stability is achieved by usage of cost-plus pricing.
  • This competitive stability is achieved by setting a price that is likely to yield acceptable returns to other members of the industry.
  • Examine the rationale behind the use of markup pricing as a general pricing strategy

• Causes of the bullwhip effect and counteracting the bullwhip effect

  • The bullwhip effect is caused by demand forecast updating, order batching, price fluctuation, and rationing and gaming.
  • Price fluctuations due to inflationary factors, quantity discounts, or sales tend to encourage customers to buy larger quantities than they require.
  • Stabilize prices by replacing sales and discounts with consistent "every-day low prices" at the consumer stage and uniform wholesale pricing at upstream stages.
  • Such actions remove price as a variable in determining order quantities.

• Price Fixing

  • Price fixing is a collusion between competitors in order to raise prices of a good or service, at the expense of competitive pricing.
  • The defining characteristic of price fixing is any agreement regarding price, whether expressed or implied.
  • The intent of price fixing may be to push the price of a product as high as possible, leading to profits for all sellers but may also have the goal to fix, peg, discount , or stabilize prices.
  • These are all instances of price fixing.
  • This includes exchanging prices with either the intent to fix prices or if the exchange affects the prices individual competitors set.

• Uses of Derivatives to Manage Exposure

  • Derivatives allow risk related to the price of underlying assets, such as commodities, to be transferred from one party to another.
  • Companies that produce or depend on the purchase of commodities are exposed to price fluctuations that occur in commodities markets.
  • Examples of such companies include the airline industry, which is constantly exposed to the price of oil, and farming, which is not only exposed to the fluctuation in the price they can sell their goods at, but also the fluctuation in the price of animal feed, fertilizer, pesticides, and other such inputs.
  • The purchase of the FRA serves to reduce the uncertainty concerning the rate increase and stabilize earnings.
  • This graph shows the price of crude oil between August 2008 and January 2009.

• The Creation of the Federal Reserve

  • The Federal Reserve was created to promote financial stability, provide regulation and banking services, and conduct monetary policy.
  • The Act established three key objectives for monetary policy: maximum employment, stable prices, and moderate long-term interest rates.
  • Over the years, the Fed has expanded its duties to include conducting monetary policy, supervising and regulating banking institutions, maintaining the stability of the financial system, and providing financial services.
  • Recall that the interest rate that the government pays is determined by the price of the bond: the higher the price of the bond, the lower the interest rate.
  • Buying or selling bonds changes the demand or supply of the bonds, and therefore their price.