Cambridge O Level Economics: Inflation and deflation (2281) – Practice Questions

These are original questions written for Marlbridge, for revision and practice on this content. They are not reproduced past-paper questions, and they do not replicate the exam’s exact structure, question count or mark tariffs – examination boards hold copyright in their own papers. Use these alongside the official past papers from your board or school.

These questions cover section 4.8 (4.8.1 to 4.8.5, inflation and deflation) of the 2026 Cambridge O Level Economics (2281) syllabus, version 2. All names and numbers in these questions are fictional. Revise first using the study guide and the revision notes. Other links: the Cambridge O Level Economics hub, the printable checklist and the free diagnostics. Attempt each question on paper before checking the working.

Questions

1. Define inflation. [2]

2. The table shows the weights and price indices for Country C (illustrative). Calculate the Consumer Prices Index (CPI) for the current year. Show your working. [4]

Category	Weight	Index
Food	35	120
Housing	30	110
Transport	15	95
Leisure	10	130
Other	10	100

3. The CPI in Country D (illustrative) rises from 118.4 to 122.9. Calculate the rate of inflation, to 1 decimal place. [3]

4. Distinguish between demand-pull inflation and cost-push inflation, giving one possible cause of each. [4]

5. A teacher in Country E (illustrative) receives a nominal pay rise of 3.5% in a year when inflation is 5.0%. Calculate the approximate change in her real wage and state whether she is better or worse off. [3]

6. A bank lends 30,000 to a small firm for one year at a fixed interest of 3%. During the year the price level rises by 6% (illustrative figures). (a) Calculate the total repaid. [1] (b) Calculate the value of the repayment in prices at the start of the year. [2] (c) Explain who gains and who loses from this loan, with a figure. [2]

7. Explain why deflation caused by falling demand can make the fall in demand worse. [5]

8. A bakery (illustrative) has monthly costs of 40,000. Energy is 20% of this. The price of energy rises by 15% and nothing else changes. Calculate the rise in energy cost, the new total cost and the percentage rise in total cost. [4]

9. Country F (illustrative) has demand-pull inflation. Explain one fiscal policy and one monetary policy the government could use to reduce it. [6]

10. Say whether each event is more likely to cause demand-side or supply-side deflation, and explain the effect on output in part (c). (a) A new technology halves the cost of producing solar panels. [1] (b) Households lose confidence and cut spending sharply. [1] (c) Explain what happens to output in each case. [2]

11. Evaluate whether raising interest rates is the best way to control cost-push inflation. [8]

12. The table shows the CPI in Country G (illustrative) over four years. The base year is year 0.

Year	0	1	2	3	4
CPI	100.0	104.0	106.1	104.0	100.9

(a) Calculate the rate of change of the CPI in years 2, 3 and 4, to 1 decimal place. [3] (b) Identify the year in which the rate of inflation fell but prices still rose, and the years of deflation. [2] (c) Suggest two policies the government could use if the deflation is demand-side, and state one limit of one of them. [4]

Answers

1. A continuing [1] increase in prices overall, measured by the average price level [1]. [2] Examiner insight: A definition that says only “prices go up” lacks the ideas of a general level and of a sustained movement. Name both.

2. Weight x index for each category: 35 x 120 = 4,200; 30 x 110 = 3,300; 15 x 95 = 1,425; 10 x 130 = 1,300; 10 x 100 = 1,000 [1]. Sum = 11,225 [1]. Divide by the total weight of 100 [1]. CPI = 112.25 [1]. [4] Examiner insight: Show the multiplication and the division by the total of the weights. A bare final figure gives the marker nothing to credit if it is wrong, and averaging the indices without weights is the usual slip.

3. Change = 122.9 - 118.4 = 4.5 [1]. 4.5 / 118.4 [1] x 100 = 3.8% [1]. [3] Examiner insight: Divide by the old CPI, not the new one. Give the rounding the question asks for.

4. Demand-pull inflation is a rise in the price level caused by total demand growing faster than supply [1]. One cause: a cut in income tax that raises consumer spending (or higher government spending) [1]. Cost-push inflation is a rise in the price level caused by rising costs of production passed on by firms [1]. One cause: higher energy prices or wage rises above productivity [1]. [4] Examiner insight: Each type needs its own cause. A cause such as “higher wages” can belong to either side, so say whether it raises demand or costs.

5. Approximate real wage change = 3.5 - 5.0 [1] = -1.5% [1]. She is worse off [1] because prices rose faster than her pay. [3] Examiner insight: A negative answer needs its sign. The conclusion “worse off” must follow from the figure, not from a guess.

6. (a) 30,000 x 1.03 = 30,900 [1]. (b) 30,900 / 1.06 [1] = about 29,151 [1]. (c) The bank loses: it lent 30,000 and the repayment has a real value of about 29,151, a loss of about 849 [1]. The firm gains, since it repays in money that buys less [1]. [5] Examiner insight: Convert to real terms before judging a gain or loss. Comparing 30,900 with 30,000 hides the effect of inflation.

7. Falling demand makes firms cut prices [1]. Households expect lower prices later, so they delay buying [1]. Demand falls again [1], so firms cut output and jobs [1], and falling incomes reduce spending further (a downward spiral) [1]. [5] Examiner insight: A chain of linked steps earns more than a list of consequences. Link each step to the next with “so” or “because”.

8. Energy cost = 40,000 x 20% = 8,000; rise = 8,000 x 15% = 1,200 [1]. New total cost = 40,000 + 1,200 = 41,200 [1]. Percentage rise = 1,200 / 40,000 x 100 [1] = 3% [1]. [4] Examiner insight: The percentage rise in total cost is smaller than 15% because energy is only part of the cost. Do not apply 15% to the whole 40,000.

9. Fiscal: raise income tax (or cut government spending) [1]. This lowers disposable income, so consumers spend less [1], so total demand falls and price pressure eases [1]. Monetary: raise the interest rate [1]. Loans cost more and saving pays more, so households and firms spend and invest less [1], so total demand falls and price pressure eases [1]. [6] Examiner insight: Naming a policy earns little without the chain to demand and prices. Say what happens to spending, then to the price level.

10. (a) Supply-side deflation [1]. (b) Demand-side deflation [1]. (c) In (a), costs fall and supply rises, so output rises as prices fall [1]. In (b), spending falls, so firms cut output and may cut jobs as they cut prices [1]. [4] Examiner insight: The link between the type of deflation and output is the main distinction. State the direction of output for each case.

11. Raising interest rates makes borrowing dearer and saving more attractive, so spending and demand fall [1], and this can ease price pressure [1]. For cost-push inflation, the problem is rising costs such as energy or wages, which lower demand does not remove [1]. Output and jobs may fall as prices still rise [1]. A stronger currency from higher rates could reduce import costs [1]. Supply-side policy such as better infrastructure or training lowers costs, but acts slowly [1]. Judgement: higher interest rates are weak against pure cost-push inflation because they treat demand, not the cost source [1]; they work better if wage growth is fuelled by strong demand, or alongside supply-side measures [1]. [8] Examiner insight: Evaluation gains credit when you weigh the policy against the cause and reach a conclusion with a reason. Repeating the mechanism does not.

12. (a) Year 2: (106.1 - 104.0) / 104.0 x 100 = 2.0% [1]. Year 3: (104.0 - 106.1) / 106.1 x 100 = -2.0% [1]. Year 4: (100.9 - 104.0) / 104.0 x 100 = -3.0% [1]. (b) The rate fell from 4.0% to 2.0% in year 2 while prices still rose [1]. Years 3 and 4 show deflation [1]. (c) Cut the interest rate to make borrowing cheaper and so raise spending [1]. Cut taxes or raise government spending to raise demand [1]. Limit: households and firms may not borrow or spend even at low rates if confidence is low (or higher government spending raises borrowing) [1]. Reasoning that links the policy to the demand-side cause [1]. [9] Examiner insight: Each year’s rate uses the previous year’s CPI as the base. Match the policy to the demand-side cause named in the question.

Where marks are usually lost

• Leaving out “general” or “sustained” from definitions.
• Using the new CPI instead of the old CPI as the denominator.
• Averaging category indices without weights.
• Dropping the minus sign for deflation or a real wage fall.
• Treating falling inflation as deflation.
• Comparing money values for a loan without allowing for the price change.
• Listing policies with no chain to demand, costs and prices.
• Evaluating with no judgement or without matching policy to cause.

Next steps

• Re-read the study guide or the revision notes.
• Check the Cambridge O Level Economics hub and the printable checklist.
• Take one of the free 10-minute diagnostics.
• Book a free trial class.

Official syllabus

Source: the Cambridge O Level Economics (2281) syllabus for the 2026 examinations (version 2), from Cambridge University Press & Assessment; this page follows section 4.8.