Question

Gasoline prices change from $1.45 per gallon to $1.29 over a two-year period. What is the rate of deflation?

5.68%
-5.68%
6.42%
-6.43%

Answer 1

Answer.) 5.68%

Overall reduction in price level = $1.45 - $1.29 = $0.16

Average yearly decrease = $0.16/2 = $0.08

Therefore, we have

Gasoline prices in year 0 = $1.45 per gallon

Gasoline prices in year 1 = ($1.45-$0.08) = $1.37 per gallon

Gasoline prices in year 2 = ($1.37-$0.08) = $1.29 per gallon

Rate of deflation in the first period = [(0.08×100)/1.45] = 5.52%

Rate of deflation in the second period = [(0.08×100)/1.37] = 5.84%

Hence, rate of deflation over a two-year period

= (5.52+5.84)/2 = 5.68%