Sacrifice Ratio

What it is:

A sacrifice ratio measures the costs of lower economic production as a percentage of the change in inflation.

The formula for the sacrifice ratio is:

Sacrifice Ratio = Dollar Cost of Production Losses/Percentage Change in Inflation

How it works (Example):

Let's say the economy is slowing and factory output has slowed down as a result. Accordingly, factories are producing \$100 million less in goods. Because fewer people are buying goods, there is not as much demand for goods and inflation has fallen 2%.

Using this information and the formula above, we can calculate that the sacrifice ratio is:

Sacrifice Ratio = \$100,000,000/2.0 = \$50,000,000

Why it Matters:

The sacrifice ratio measures how much output is lost when inflation goes down by 1%. In our example, output falls by \$50 million. This helps central banks decide what to do about their monetary policies, which can stimulate or slow down economies. For example, if inflation is getting too high and the central bank wants to do something about it, it can consult the sacrifice ratio to determine how its actions will reduce output in the economy.

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