Question

Government survey takes determine that typical family expenditures each month in 2017 are as follows (Chapter 6) 2017 Burritos $250 Rent of an townhouse $500 Gasoline and car maintenance $150 Entertainment $100 In 2018 prices for this basket of goods has changed 2018 Burritos $260 Rent of a townhouse $620 Gasoline and car maintenance $120 Entertainment $20 If the CPI was 100 in 2017, what would the CPI be in 2018? What was the rate of inflation in 2018? A family’s nominal income increased by 5 percent between 2010 and 2011. Are they better off or worse off in terms of what they are able to buy?

Answer 1

Average consumption per month in 2017=Co=250+500+150+100 =$1000

Average consumption per month in 2018=C1=260+620+120+20 =$1020

i)

CPI in 2018=(C1/Co)*CPI in 2017=(1020/1000)*100=102

ii)

Inflation in 2018=(CPI in 2018-CPI in 2017)/CPI in 2017=(102-100)/100=2%

iii)

Real growth in income=(1+Nominal Growth)/(1+inflation)-1=(1+5%)/(1+2%)-1=2.94%

We observe that real growth in income is positive. Family is better off.

(Alternate explanation: We observe that nominal growth rate (5%)>inflation rate (2%).So, we can say that income has increased in real terms also. Hence, family is better off)