Measuring the Cost of Living

Transcription

1 January 18, 2017

2 GDP deflator Last week, we talk about real GDP and nominal GDP.. We use GDP deflator to measure inflation. Inflation: inflation rate = GDP deflator = Nominal GDP Real GDP 100 GDP deflator in year2 GDP deflator in year1 100 GDP deflator in year 1

3 GDP deflator example Q 2000 P 2000 Q 2001 P 2001 Bikes Beer ngdp 2000 = = 1200 ngdp 2001 = = 1800 rgdp = = 1200 = = 1840 rgdp

4 GDP deflator example GDP deflator in 2011= GDP deflator in 2010= year is always 100. Q 2000 P 2000 Q 2001 P 2001 Bikes Beer Inflation= =-2.2% 100 =97.8% 100 =100%, GDP deflator of base

5 Definition of CPI Consumer Price Index (CPI): A measure of the overall cost of the goods and services bought by a typical consumer. GDP measures how well the economy is doing. CPI focuses on the households, not the whole economy.

6 How do we calculate CPI? Step 1: Government does a survey of households what people spend money on for their daily life per year. they take the average to get a fixed basket. Step 2: Calculate the nominal value of the basket using the price of the current year. Step 3: Pick a base year as the benchmark price.

7 How do we calculate CPI? Step 4: CPI = Nominal value of the basket Real value of the basket Step 5: Use CPI to calculate inflation rate: 100 inflation rate in year2 = CPI in year2 CPI in year1 CPI in year1 100 This way is more common since it reflects the goods and services bought by consumers.

8 Excluded Non-household purchases: government spending, firm spending. New goods: new goods are not included as we use a fixed basket of goods, Quality changes: when the quality of a good increases over time, government adjusts the price to account for the quality change, but quality is so hard to measure. Substitution bias (change in consumption): suppose the price of some good increases more than the price rises of its substitute, people tend to buy more relatively less expensive goods, but a fixed basket does not capture this.

9 GDP deflator vs. CPI They measure the nominal value relative to the real value. Difference 1: GDP deflator uses quantity in the current year, but CPI does not update the quantity. Recall the formula.

10 GDP deflator vs. CPI Difference 2: GDP deflator reflects the price of all goods and services produced domestically. CPI reflects the price a basket of goods and services that was bought by consumers. For example, the airplanes purchased by the U.S. Air Force is part of GDP, but not CPI. Goods purchased by the US people that are produced in China is part of CPI, but not GDP.

11 Nominal interest rate vs. real interest rate Fisher Equation: (Approximation) i=r+π or r=i-π Nominal interest rate (i): the interest rate without a correction for the effects of inflation. Real interest rate (r): the interest rate corrected for the effects of inflation. Nominal measures how fast the amount of dollars in your bank account increases, real measures how fast the real purchasing power of dollars increases.

12 CPI Example suppose we have 4 bananas and 2 apples in a basket. price of banana price of apple 2012 (base year) $1 $ $2 $3 (1) Compute the cost the basket of goods in each year 2012: = 8 per basket 2013 : = 14 per basket

13 CPI Example suppose we have 4 bananas and 2 apples in a basket. price of banana price of apple 2012 (base year) $1 $ $2 $3 (2) Compute CPI 2012: 8 / = 100,CPI in the base year is always 100, like GDP deflator in base year : 14/8 100 = 175,the price level in 2013 is 175 percent of the price level in the base year.

14 Midterm review problem 1 suppose my salary = 50k a year CPI = 100 in the base year, and CPI = 110 how much of a rise does my salary need to be just as well-off?

15 Midterm review problem 1 suppose my salary = 50k a year CPI = 100 in the base year, and CPI = 110 how much of a rise does my salary need to be just as well-off? To be just as well-off means that I can buy the same quantity of goods I need x=55k 50k 100 = x 110 How much increase? 55k-50k=$5000

16 Midterm review problem 2 suppose CPI=225 in 2012, and CPI=236 in 2013 the nominal interest rate during this period was 6.5 percent what was the real interest rate during this period?

17 Midterm review problem 2 suppose CPI=225 in 2012, and CPI=236 in 2013 the nominal interest rate during this period was 6.5 percent what was the real interest rate during this period? i=r+π inflation rate = CPI in year2 CPI in year1 CPI in year1 100 inflation= =4.9% R=6.5%-4.9%=1.6%

18 Midterm review problem 3 Which of the following event could cause GDP of 2013 to increase? A. In April 2013, Judy bought stocks and bonds. B. In April 2013, Judy bought tires for her car from a tire shop in California. C. Judy worked in Mexico during summer of 2013, and earned the equivalent of $30,000 during that time. D. In April 2012, Judy paid for a concert.

19 Midterm review problem 3 Answer B. why? Which of the following event could cause GDP of 2013 to increase? A. In April 2013, Judy bought stocks and bonds. -Saving B. In April 2013, Judy bought tires for her car from a tire shop in California. C. Judy worked in Mexico during summer of 2013, and earned the equivalent of $30,000 during that time. -outside U.S. D. In April 2012, Judy paid for a concert.- In 2012.

20 Midterm review problem 4 An American soldier stationed in North Carolina receives a paycheck from the federal government for $300, which she uses to purchase $100 MP3 player made in China by a Chinese firm and $200 for fruit and vegetables from a local farmers market. As a result, U.S. GDP increases by A. $200 B. $300 C. $500 D. $600

21 Midterm review problem 4 An American soldier stationed in North Carolina receives a paycheck from the federal government for $300, which she uses to purchase $100 MP3 player made in China by a Chinese firm and $200 for fruit and vegetables from a local farmers market. As a result, U.S. GDP increases by A. $200 B. $300 C. $500 D. $600 Answer A. why? Note: MP3 is not produced domestically.

22 Midterm review problem 5 Changes in the GDP deflator reflect A. only changes in prices B. only changes in the amounts being produced C. both changes in prices and changes in the amount being produced D. neither changes in prices nor changes in the amount being produced

23 Midterm review problem 5 Changes in the GDP deflator reflect A. only changes in prices B. only changes in the amounts being produced C. both changes in prices and changes in the amount being produced D. neither changes in prices nor changes in the amount being produced Answer A. why? Recall GDP deflator formula, quantity cancelled out.

24 Midterm review problem 6 Brain rented an apartment in Isla Vista for $1000 each month. At the beginning of 2013, he decided to buy the apartment which he formerly rented for $12,000. He also purchased a second-hand car made in 2013 which price was $12,000. What is Brian s contribution to 2013 GDP? A. A contribution of $12,000 in consumption component. B. A contribution of $24,000 in investment and consumption component. C. A contribution of $36,000 in consumption component. D. A contribution of $24,000 in consumption.

25 Midterm review problem 6 Brain rented an apartment in Isla Vista for $1000 each month. At the beginning of 2013, he decided to buy the apartment which he formerly rented for $12,000. He also purchased a second-hand car made in 2013 which price was $12,000. What is Brian s contribution to 2013 GDP? A. A contribution of $12,000 in consumption component. B. A contribution of $24,000 in investment and consumption component. C. A contribution of $36,000 in consumption component. D. A contribution of $24,000 in consumption. Answer A. why? Purchase of previously owned house is not part of GDP. Second-hand goods are not part of GDP.