ABSTRACT
What is inflation? Inflation is a rise in most prices—a rise in the average price level of the economy. What causes it? A shift up of the D or S curve of the economy. As we saw in chapter 5, in the 1960s a shift up (right) of the D curve due to Vietnam War spending caused prices to rise; and in the 1970s, a shift up (left) of the S curve due to the OPEC oil price increases caused prices to rise. When the cause of inflation is a shift up of the D curve, the inflation is accompanied by a boom—a rise in the gross domestic product (GDP) and a fall in unemployment. When the cause of inflation is a shift up of the S curve, the inflation is accompanied by a recession—a fall in GDP and a rise in unemployment. Oversimplifying, we can say that the shift up of demand in the 1960s caused inflation to rise from 0 percent to 5 percent per year, and the shift up of supply in the 1970s caused inflation to rise from 5 percent to 10 percent per year.
