chapter 8 connect

Which of the following statements is not true? (LO8-1) When the average price level rises, the price of all goods and services goes up. a. Owners' equivalent rent of primary residence is the biggest part of the market basket in the consumer price index. b. The market basket for the CPI represents the expenditures of a typical person. c. The CPI tracks the average price level.

A

Which situation would most economists prefer? (LO8-4) a. An unexpected drop in the inflation rate from 5% to 0%. b. A steady 2% inflation rate. c. An unexpected climb in the inflation rate from 3% to 6%. d. An expected decline in the inflation rate from 3% to −2%.

D

The following table gives the the value of the consumer price index for 2003 through 2010. (LO8-1) Year Consumer Price Index 2003 184.0 2004 188.9 2005 195.3 2006 201.6 2007 207.3 2008 215.3 2009 214.5 2010 218.1 a. What was the inflation rate in 2003? b. What was the inflation rate in 2007? c. What was the percentage increase of the average price level from 2003 to 2010? d. In what year was the inflation rate the highest? The lowest?

Percentage Increase 2003 184 2004 188.9 = 2.66% 2005 195.3 = 3.39% 2006 201.6 = 3.23% 2007 207.3 = 2.83% 2008 215.3 = 3.86% 2009 214.5 = -0.37% a. The inflation rate in 2004 was 2.66%. b. The inflation rate in 2007 was 2.83%. c. The average price level increased by (218.1 - 184) / 184 = 18.53% from 2003 to 2010. d. Inflation was the highest in 2008; it was the lowest in 2009.

Suppose the annual inflation rate has been 3 percent for several years. Then, without warning, it soars to 10 percent a year. Will each of the following individuals or businesses win or lose from such unexpected inflation? (LO8-4) a. A tenant renting an apartment with a lease that fixes the rent for the next three years. b. An automobile dealer who has leased a car to a buyer for three years with fixed payments. c. A bank that has lent money to a family to buy a home with interest rates fixed for the next 30 years.

a. If the tenant locks in the lease price before an unexpected rise in inflation, they are paying the fixed amount of rent with less valuable dollars, meaning they benefit from inflation. b. If the auto dealer lent the money prior to a period of unexpected inflation, the company will be repaid with less valuable dollars, meaning they lose. c. The bank will lose since it has made this loan when the inflation rate is 3%, but now it could make loans at a much higher rate.

Suppose you are a Social Security recipient. In 2006 you receive $600 per month in Social Security benefits. In October of that year the Social Security Administration announces that the cost-of-living adjustment for 2007 will be 3.3 percent, roughly matching the overall inflation rate. (LO8-3) a. How much will your 2007 monthly benefits be? b. In real terms, do your benefits go up, go down, or stay the same?

a. Monthly benefits will be 103.3% of $600, or (1.033 × $600) = $619.80. b. Because cost-of-living adjustments are made based on inflation rates, monthly benefits, in real terms, will not have changed. If for some reason, the COLA were to be less than inflation, then benefits would fall in real terms, and vice versa.

One of the biggest decisions most of us have to make is which industry to look for work in. Compensation matters, but it also matters whether pay is rising or falling. The following table gives the annual average pay in five major industries for 2000 and 2009 (the figures include the pay of all workers, including top managers). (LO8-3) Calculate the percentage increase in pay for each industry from 2000 to 2009. a. What was the real percentage increase in pay for each industry from 2000 to 2009, using the rule of thumb that the real property tax increase is roughly the nominal percentage increase minus the inflation rate? (The CPI in 2000 was 172.2, and the CPI in 2009 was 214.5.) b. Which industry had the biggest increase in real wages? c. Average Annual Wages and Salaries (Dollars)* Industry 2000 2009 Manufacturers 43,933 57,374 Retail trade 26,585 31,195 Finance and insurance 64,561 84,555 Computer systems design and programming 82,555 95,337 Hospitals 38,632 56,405

a. The increases were as follows: -Manufacturers, (57,374- 43,933)/43,933 = 30.60%; -Retail trade, (31,195 - 26,585)/ 26,585 = 17.34%; -Finance and insurance, (84,555 - 64,561)/ 64,561 = 30.97%; -Computer systems design and programming, (95,337−82,555)/82,555 = 15.48%; -Hospitals, (56,405 − 38,632)/ 38,632 = 46.01%. b. The percentage change in the CPI from 2000 to 2009 can be calculated as (214.5 - 172.2) / 172.2 = 24.56%. Therefore, the real increases in pay in the five industries were: Manufacturers, 6.04%; Retail trade: -7.22% (salaries fell); Finance and insurance, 6.41%; Computer systems design and programming, -9.08 (salaries fell); Hospitals, 21.45%. c. Hospitals had the highest increase in real salaries (21.45%).

The following table that reports the average prices of gasoline and apples, as well as the consumer price index for three years. (LO8-2) Gasoline (Price per Gallon) Red Delicious Apples (Price per Pound) Consumer Price Index (1982-1984 = 100) December 1987 $0.98 $0.55 115.4 December 1997 $1.24 $0.90 161.3 December 2007 $2.92 $0.98 208.9 a. What was the percentage increase in the price of gasoline from 1987 to 2007? b. What was the percentage increase in the price of apples from 1997 to 2007? c. Did the relative price of gasoline rise or fall from 1987 to 1997? That is, was the percentage increase in gasoline prices higher or lower than the percentage increase in the CPI? d. Did the relative price of gasoline rise or fall from 1997 to 2007? e. Did the relative price of apples rise or fall from 1987 to 1997?

a. The percentage increase in the price of gasoline from 1987 to 2007 was ($2.92 - $0.98) / $0.98 = 197.96%. b. The percentage increase in the price of apples from 1997 to 2007 was ($0.98 - $0.90) / $0.90 = 8.89%. c. From 1987 to 1997, the price of gasoline increased by ($1.24 - $0.98) / $0.98 = 26.53%, but the consumer price index increased by (161.3 - 115.4) / 115.4 = 39.77%. This means that the relative price of gasoline fell during this period. d. From 1997 to 2007, the price of gasoline increased by ($2.92 - $1.24) / $1.24 = 135.48%, but the consumer price index increased by (208.9 - 161.3) / 161.3 = 29.51%. This means that the relative price of gasoline rose over this period. e. From 1987 to 1997, the price of apples increased by ($0.90 - $0.55) / $0.55 = 63.64%, but the consumer price index increased by (161.3 - 115.4) / 115.4 = 39.77%. This means that the relative price of apples rose over this period.

The sports pages are always filled with news of the latest big contract an athlete has received. The following table shows the average price for major league baseball tickets for three years, the average player salary, and the consumer price index for those years. (LO8-3) a. Calculate the real percentage increase in ticket prices from 1996 to 2001 and from 2001 to 2010. b. Calculate the real percentage increase in player salaries from 1996 to 2001 and from 2001 to 2010. c. Between 1996 and 2010 total attendance at major league baseball games grew from 60 million to 73 million, despite the increase in real ticket prices. Using your knowledge from Chapter 3, say whether this increase in attendance is more likely to represent a supply shift or a demand shift in the market for baseball tickets. Page 162 d.From the information provided below, do you think the rise in player salaries is the main cause of the rise in ticket prices? Explain. Average Ticket Price Major League Baseball (Dollars) Consumer Price Index (1982-1984=100) Average Player Salary (Dollars) 1996 11.32 156.9 $1,176,967 2001 17.64 177.1 $2,264,403 2010 26.74 218.1 $3,305,393

a. The real percentage increase in ticket prices from 1996 to 2001 is 55.83% - 12.87% = 42.96%. The real percentage increase in ticket prices from 2001 to 2010 is 51.59% - 23.15% = 28.44%. b. The real percentage increase in player salaries from 1996 to 2001 is 92.39% - 12.87% = 79.52%. The real percentage increase in player salaries from 2001 to 2010 is 45.97% - 23.15% = 22.82%. c. This represents an increase in demand since the ticket sales and the price rose. d. The rise in player salaries is not the main cause of the rise in ticket prices because even though both increased, there is not a consistent relationship between the two.

Say whether each of the following represents a pure price change or an improvement in quality. (LO8-2) a. The price of a home goes up. b. The price of a home goes up after a complete renovation. c. The latest model of a car is more expensive than the previous model, but it also has more features. d. The price of a peach rises.

a. This is a pure price change. b. This price change reflects an improvement in quality. c. This price change primarily reflects an improvement in quality. d. This is a pure price change.