Question

The table below shows this market basket and the price of each good in 2015 and 2016. For the questions below, assume that 2015 is the base year.

	2015		2016
Good	Quantity	Unit price	Unit price
Textbooks	7	$180.00	$210.00
Pizza	9	12.00	10.00
Beer	12	10.00	12.00

1. Compute the CPI in 2016 and the inflation rate between 2015 and 2016.

2. Suppose in 2016, you buy 10 textbooks instead of 7, will your answers in (a) and (b) change? Explain briefly.

Answer 1

Consumers price index = (cost of market basket in a given year / cost of market basket in the base year)*100

A) As 2015 is the base year, CPI in 2015 = 100

CPI in 2016 = [{(7*210)+(9*10)+(12*12)} / {(7*180)+(9*12)+(12*10)}]*100 = (1704/1488)*100 = 114.52

The inflation rate between 2015 and 2016 is =

[(CPI in 2016 - CPI in 2015)/CPI in 2015]*100 = [(114.52 - 100)/100]*100 = 14.52%

B) If in 2016, you buy 10 textbooks instead of 7, the cost of your market basket in 2016 will increase. But the CPI in 2016 and the inflation rate based on CPI won't change, because CPI estimates the inflation based on the average change in prices paid for a fixed basket of goods and services over time.