Question

1. Calculating inflation using a simple price index Consider a fictional price index, the College Student Price Index (CSPI), based on a typical college student's annual purchases. Suppose the following table shows information on the market basket for the CSPI and the prices of each of the goods in 2014, 2015, and 2016. The cost of each item in the basket and the total cost of the basket are shown for 2014. Perform these same calculations for 2015 and 2016, and enter the results in the following table 2014 2015 2016 Price Cost Price Cost Price Cost Quantity in Basket (Dollars) (Dollars) (Dollars) (Dollars) (Dollars) (Dollars) Notebooks Calculators Large coffees Energy drinks Textbooks Total cost Price index 15 2 70 2 2 120 30 70 500 100 1,200 1,900 100 5 8 100 130 250 50 10 4 6 150 180

Answer 1

The following tabular calculation shows the year-on-year basis of basket of goods purchased by the students and related calculation of the inflation rate. It has been found that price of the basket is increasing significantly each year. The inflation rate between 2014 and 2015 is 25%. Inflation rate between 20015 and 2016 is 20%.

Between 2014 and 2015, CSPI increased by = (125-100)/100 = 25%

Between 2015 and 2016, CSPI increased by = (150-125)/125 = 20%

Correct Answer:

B

C

Textbooks and energy drinks are being purchased as demanded, even if the price is rising significantly. It makes the index to overstate the inflation.