Question

Discussion #6 – Consumer Price Index (CPI), Productivity and standard of living.

The CPI is a measure of the overall cost of the goods and services bought by a typical consumer and it is used to calculate the rate of inflation. The government agency that is responsible for calculating the CPI is the Bureau of Labor and Statistics. The Bureau collects data and compares prices in more than 80,000 items in major metropolitan areas of the U.S. A base year is selected as the normal year of no extraordinary events such as flood damage, high unemployment, war, etc.

The basket’s cost of goods and services, the CPI and rate of inflation are related. The basket costs of goods and services are quoted in dollars; the CPI are in numbers; and inflation rate is quoted in percentage. It is a question of converting dollars to numbers and to percentage change. For example, suppose 2013 is the base year and the basket’s cost in 2013 for the same goods and services was $82; and the basket’s cost in 2014 was $90. What was the CPI in 2014 and rate of inflation between 2013 and 2014? The CPI in 2014 equals ($90/$82)x100=109.8. The rate of inflation between 2013 and 2014 is 9.8%.

Another related concept to CPI is the GDP deflator. The GDP deflator is the current level of prices relative to the level of prices in the base year. Please read more about the difference between CPI and GDP deflator on the PPT slides.

Productivity and standard of living - Productivity is defined as the quantity of goods and services produced from each unit of labor input. That is output per hour of labor. While real GDP per capita is a measure of standard of living. For example, Country X has population of 1,000, 800 work 8 hours a day to make 128,000 goods. Country Y has population of 2,000, 1,800 work 6 hours a day to make 270,000 final goods. Which country has higher productivity and higher real GDP per capital?

Country X:  Productivity: 800x8=6400. 128,000/6400=20. Real GDP per capita = 128,000/1000=128

Country Y: Productivity:1,800x6=10800. 270,000/10800=25. Real GDP per capita=270,000/2000=135

Country Y has higher productivity and higher Real GDP per capita.

Given the above information, answer the following questions:

(1) In 2012, the market basket’s cost = $80, in 2013 the same basket’s cost equals $84; and in 2014 the basket’s cost is $87.60. calculate CPI for

• 2012
• 2013
• 2014
• What’s the rate of inflation between 2012 and 2013?

(2) Country A has a population of 15,000, of whom 9,000 work 8 hours a day to produce real output of $342,000. Country B has a population of 8,000, of whom 7,000 work 7 hours a day to produce real output of $171,500. Which country has the higher productivity rate and higher real GDP per capita?

6 points for the first question and 4 points for the second question.

Answer 1

1. Base year is 2012.

CPI = (Cost of basket in year t)/(Cost of basket in base year) *100

CPI in year 2012 = (80/80)*100 = 100

CPI in year 2013 = (84/80)*100 = 105

CPI in year 2014 = (87.60/80)*100 = 109.5

Inflation between year 2012 and 2013 = (105-100)/100 *100 = 5%

2. We will find the productivity

Productivity in Country A = (342000)/(9000*8) = 4.75

In country B

Productivity= (171500)/(7000*7) = 3.5

Country A has higher productivity.

Real GDP per capita

Country A = 342000/15000 = $22.8

Country B = 171500/8000 = $21.44

Country A has real GDP per capita.

* Please upvote if possible.