Association of Chartered Certified Accountants (ACCA) Certification Practice Test

What is inflation primarily characterized by?

1. Decrease in production costs

2. Increase in prices and costs over time

3. Stabilization of the currency value

4. Maintenance of real income levels

The correct answer is: Increase in prices and costs over time

Inflation is primarily characterized by an increase in prices and costs over time. This means that, as inflation occurs, the general level of prices for goods and services rises, which erodes the purchasing power of money. When inflation is present, consumers find that they need more money to buy the same items they purchased in the past, indicating that prices have indeed increased. This rise in costs can be attributed to various factors, such as increased demand for goods and services, higher production costs, or expansionary monetary policies that increase the money supply in the economy. It is a fundamental economic concept that affects markets, consumer behavior, investment strategies, and overall economic health. The other options do not accurately reflect the nature of inflation. For example, a decrease in production costs typically indicates the opposite of inflation, while stabilization of the currency value suggests a lack of inflationary pressures. Lastly, maintenance of real income levels does not directly characterize inflation, as inflation often impacts real income negatively by reducing purchasing power. Therefore, understanding inflation primarily through the lens of rising prices and costs is essential for grasping its implications in an economic context.