$$\text{Inflation Rate} = \frac{165 - 150}{150} \times 100 = 10\%$$

$$\text{Equivalent Salary} = 20,000 \times \frac{219}{104} = 42,115$$

$$\text{Real Interest Rate} = 6\% - 4\% = 2\%$$

Question 1

Which of the following best describes the Consumer Price Index (CPI)?

Accepted Answer

A measure of the average of the prices a typical urban family of four pays for the goods and services they purchase.

Question 2

Suppose the cost of a fixed basket of goods was $$200 in the base year and 300 in $$the current year. What is the CPI for the current year?

Accepted Answer

$$CPI = \frac{300}{200} = 1.5$$

Question 3

If the CPI was 150 last year and 165 this year, what is the inflation rate for this year?

Accepted Answer

$$	ext{Inflation Rate} = \frac{165 - 150}{150} 	imes 100 = 10\%$$

Question 4

Which of the following is NOT a potential problem with the CPI as a measure of inflation?

Accepted Answer

It includes the prices of stocks and bonds.

Question 5

A worker earned $20,000 in 1984 when the CPI was 104. If the CPI in 2015 is 219, what is the equivalent salary in 2015 dollars?

Accepted Answer

$$	ext{Equivalent Salary} = 20,000 	imes \frac{219}{104} = 42,115$$

Question 6

If the nominal interest rate on a loan is 6% and the inflation rate is 4%, what is the real interest rate?

Accepted Answer

$$	ext{Real Interest Rate} = 6\% - 4\% = 2\%$$

Question 7

Which of the following best explains why unanticipated inflation is problematic for lenders?

Accepted Answer

It makes the real interest rate received by lenders uncertain and possibly negative.

Question 8

Which of the following is an example of menu costs caused by inflation?

Accepted Answer

The cost to a restaurant of printing new menus when prices change.

Question 9

If all prices and wages in an economy double overnight, what happens to the real purchasing power of income?

Accepted Answer

It stays the same.

Question 10

Which of the following is a reason why the CPI may overstate the true rate of inflation?

Accepted Answer

It does not adjust for improvements in product quality.

Question 11

Suppose the price of coffee rises significantly, and consumers switch to buying more tea instead. What bias does this illustrate in the CPI?

Accepted Answer

Substitution bias

Question 12

The Producer Price Index (PPI) differs from the Consumer Price Index (CPI) in that the PPI:

Accepted Answer

Measures the average prices received by producers for their goods and services.

Question 13

If the CPI in 1931 was 16.7 and in 2022 it was 292.3, what is the formula to convert a 1931 salary to its 2022 equivalent?

Accepted Answer

$$	ext{2022 Salary} = 	ext{1931 Salary} 	imes \frac{292.3}{16.7}$$

Question 14

Which of the following is a cost of anticipated inflation?

Accepted Answer

Menu costs for firms that must frequently change prices.

Question 15

If a retiree receives a fixed income, what is the effect of inflation on their purchasing power?

Accepted Answer

Their purchasing power decreases.

Question 16

Which of the following would NOT be included in the CPI market basket?

Accepted Answer

A new smartphone released after the last basket update.

Question 17

Why might the CPI overstate the cost of living for consumers?

Accepted Answer

It does not account for consumers switching to cheaper alternatives when prices change.

Question 18

If the inflation rate is higher than expected, who is most likely to benefit?

Accepted Answer

Borrowers who took out fixed-rate loans.

Question 19

Which of the following is an example of outlet bias in the CPI?

Accepted Answer

The CPI does not account for consumers buying more goods online at lower prices.

Question 20

A loan has a nominal interest rate of 8%. If inflation is 10%, what is the real interest rate?

Accepted Answer

$$	ext{Real Interest Rate} = 8\% - 10\% = -2\%$$

Unemployment and Inflation: Measuring and Understanding Inflation

Study Guide - Practice Questions