Question

2.  Suppose that a hypothetical “consumer market basket” consists only

of goods B and C, in the quantities:  B = 10 and C = 5.  

Use 2018 as a base year (i.e., 2018 = 100).

                                                                   Year 2017      Year 2018     Year 2019

Quantity of Good A                                            3                      4                     5

Price of Good A                                                 $9                  $10                $11

Quantity of Good B                                          10                    10                   10

Price of Good B                                                 $2                    $4                   $6

Quantity of Good C                                            2                      4                      6

Price of Good C                                                 $5                    $6                    $7

a.  What is the total money value spent on the consumer market basket in 2018 and 2019?

b.  Calculate the CPI for 2018, and 2019.

c.  What is the inflation rate for 2017 - 2018?  

d.  What is the inflation rate for 2018 - 2019?

e.  If an individual’s nominal income rises 50% from 2018 to 2019, what is the growth rate of their real income?

f.  If the base year is 2017 (instead of 2018), what will be the new CPI values for all three years?

g.  With the “updated” CPI values from question “f”, will the inflation rates for 2017 - 2018, and 2018 - 2019 change, or stay the same?  Justify your answer.

Answer 1

a) current price value of basket for
Year 2018= (10*4 + 5*6) = $ 70
Year 2019 = (10*6 + 5*7) = $ 95   

price value of basket as 2018 as base year for
Year 2018= (10*4 + 5*6) = $ 70
   Year 2019 = (10*6 + 5*7) = $ 95

b) CPI index = (current price value of basket/price value of basket in base year) x100

year 2018 as base year
CPI for Year 2018 = (70/70)*100 = 100
CPI for Year 2019 = (95/70)*100 = 135.71

Rate of inflation = (CPI_x+1 - CPI_x) / CPI_x  

c)   CPI for year 2017 = (10*2 + 5*5)/ (10*4 + 5*6) = (45/70)*100 = 64.29

Inflation rate between year 2017 and 2018 = (100-81.82)/81.82 = 22.22%

d) Inflation rate between year 2018 and 2019   = (135.71-100)/100 = 35.71%