Macroeconomics chapter 23 - CPI
Why is the C-CPI called a chained CPI?
Because the inflation rate calculated for the current month is linked back, like the links in a chain, to a reference base month.
Quality Change Bias
Better cars and televisions cost more than the versions they replace. • A price rise that is a payment for improved quality is not inflation but might get measured as inflation.
CPI equation
CPI =(Cost of CPI basket at current period prices /Cost of CPI basket at base period prices) x 100
Increases in Government Outlays and Decreases in Taxes
Close to a third of federal government outlays are linked directly to the CPI. The CPI is used to adjust:
Consequences of the CPI Bias
Distortion of private contracts • Increases in government outlays and decreases in taxes
Dollar to cents at different dates calculation
EXAMPLE (fill in w relevant info): Price of stamp in 2016 in $ = (price in 1916 in $) x (CPI in 2016 / CPI in 1916)
The Monthly Price Survey
Each month, BLS employees check the prices of the 80,000 goods and services in the eight large groups shown in the CPI basket in 30 metropolitan areas.
Why are food and energy not in the PCEPI
Food and energy prices fluctuate much more than other prices, so their changes can obscure the underlying trends in prices. By excluding these highly variable items, the underlying price level and inflation trends can be seen more clearly.
GDP price index calculation
GDP price index = (Nominal GDP / Real GDP) x 100
Things in the CPI market basket
Housing Transportation Medical care Education and communication Recreation Apparel Other good and services
Outlet Substitution Bias
If prices rise more rapidly, people use discount stores more frequently. • The CPI basket doesn't change to allow for the effects of outlet substitution.
Commodity Substitution Bias
If the price of beef rises faster than the price of chicken, people buy more chicken and less beef. • The CPI basket doesn't change to allow for the effects of substitution between goods.
Deflation
Is a situation in which the inflation rate is negative
How does the PCEPI avoid bias
It uses current information on quantities and prices
Distortion of Private Contracts
Many wage contracts are linked to the CPI. If the CPI is biased, these contracts might deliver an outcome different from that intended by the parties.
New Goods Bias
New goods do a better job than the old goods that they replace, but cost more. • The arrival of new goods puts an upward bias into the CPI and its measure of the inflation rate.
Real interest rate calculation
Real interest rate = Nominal interest rate - Inflation rate.
core inflation rate
The annual percentage change in the PCEPI excluding food and energy
The CPI Market Basket
The relative importance of the items in the CPI basket is the same as in the budget of an average urban household. The CPI is calculated each month, but the CPI basket is not updated each month.
What happens when the CPI basket is revised?
When the BLS revises the CPI basket, the reference base period does not change.
Cost of living index
a measure of changes in the amount of money that people would need to spend to achieve a given standard of living.
Reference base period
a period for which the CPI is defined to equal 100. Between 1892-1894
Personal Consumption Expenditures Price Index (PCEPI) i
an average of current prices of all the goods and services included in the consumption expenditure component of GDP expressed as a percentage of base- year prices.
GDP price index
an average of the current prices of all the goods and services included in GDP expressed as a percentage of the base-year prices.
chained-consumer price index i
is a is measure of the price level calculated using current month and previous month prices and expenditures.
Inflation Rate
is the percentage change in the price level from one year to the next.
How does the C-CPI avoid the bias in the CPI
it uses current period expenditures that are updated every month The C-CPI takes account of new goods, quality change, and substitution effects.
Consumer Price Index (CPI)
measure of the average of the prices paid by urban consumers for a fixed market basket of consumer goods and services. The BLS calculates the CPI every month.
Nominal wage rate
the average hourly wage rate measured in current dollars.
Real wage rate
the average hourly wage rate measured in the dollars of a given reference base year.
Nominal interest rate
the dollar amount of interest expressed as a percentage of the amount loaned.
Real interest rate
the goods and services forgone in interest expressed as a percentage of the amount loaned.
The CPI does not measure the cost of living because
• It does not measure all the components of the cost of living. • Some components are not measured exactly.
Sources of Bias in the CPI
• New goods bias • Quality change bias • Commodity substitution bias • Outlet substitution bias
To calculate real hourly wage
(Nominal hourly wage rate) / (CPI) x 100
Steps to Calculating the CPI
1) Find the cost of the CPI basket at base period prices. 2) Find the cost of the CPI basket at current period prices. 3) Calculate the CPI for the base period and the current period.
inflation rate equation
= (CPI current year - CPI in previous year) / (CPI in previous year) x 100
