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

$$\text{Equivalent Salary} = 30,000 \times \frac{260}{130} = 60,000$$

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

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 $$200 in the base year and 250 in $$the current year. What is the CPI for the current year?

Accepted Answer

$$CPI = \frac{250}{200} = 1.25$$

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 $30,000 in 1990 when the CPI was 130. If the CPI in 2020 is 260, what is the equivalent salary in 2020 dollars?

Accepted Answer

$$	ext{Equivalent Salary} = 30,000 	imes \frac{260}{130} = 60,000$$

Question 6

If the nominal interest rate is 6% and the inflation rate is 2%, what is the real interest rate?

Accepted Answer

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

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

A restaurant must frequently reprint its menus to reflect changing prices.

Question 9

If the price of coffee rises and consumers buy more tea instead, which CPI problem does this illustrate?

Accepted Answer

Substitution bias

Question 10

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 11

Suppose your salary increased by 3% last year, but the inflation rate was 4%. What happened to your real income?

Accepted Answer

Your real income decreased by 1%.

Question 12

Which of the following is a cost of anticipated inflation?

Accepted Answer

Menu costs for firms

Question 13

If the CPI overstates inflation by 1 percentage point, what is a likely consequence?

Accepted Answer

Cost-of-living adjustments (COLAs) may be higher than necessary.

Question 14

A retiree living on a fixed income is most negatively affected by which type of inflation?

Accepted Answer

Unanticipated inflation

Question 15

Which of the following scenarios best illustrates outlet bias in the CPI?

Accepted Answer

Consumers increasingly shop at discount stores, but the CPI only surveys traditional retail outlets.

Question 16

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

Accepted Answer

It remains unchanged.

Question 17

Which formula correctly adjusts a past salary to its equivalent in current dollars using the CPI?

Accepted Answer

$$	ext{Current Salary} = 	ext{Past Salary} 	imes \frac{	ext{CPI}_{	ext{current}}}{	ext{CPI}_{	ext{past}}}$$

Question 18

Which of the following is an example of new product bias in the CPI?

Accepted Answer

Smartphones are not included in the CPI basket until several years after their introduction.

Question 19

If the nominal interest rate is 5% and the inflation rate is 7%, what is the real interest rate?

Accepted Answer

$$	ext{Real Interest Rate} = 5\% - 7\% = -2\%$$

Unemployment and Inflation: Measuring and Understanding Inflation

Study Guide - Practice Questions