Question

Assume the price of avocados rises sharply because of the effects of a natural disaster on...

Assume the price of avocados rises sharply because of the effects of a natural disaster on their supply. Which of the following is the most likely effect on the CPI?

a quality adjustment bias casuins the true cost of living increase to oversrared

b quality adjustment bias casuins the true cost of living increase to understated


c. substitution bias bias casuins the true cost of living increase to oversrared

d substitution bias bias casuins the true cost of living increase to underdtated
e no effect as substituion and quality adjustment bias have equal and oppsite effect
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Answer #1

The price of avocados rises sharply because of the effects of a natural disaster on their supply.

This increase in price of avocados will induce the consumers to substitute them with cheaper alternative fruits.

However, if CPI basket includes avocadoes then this substitution will not get reflected in the calculation of the CPI and thus CPI will be overstated.

So,

The substitution bias causing the true cost of living to overstated.

Hence, the correct answer is the option (c).

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