[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

Review and Practice
SUMMARY
1. The inflation rate is the percentage increase of the price
level from one year to the next.
2. The economy-wide costs of inflation are related to the
distortions that inflation creates in relative prices and in
the increased risk and uncertainty it generates.
3. The consumer price index (CPI) is a measure of the cost
of living for the typical household. The rate of change of
the CPI is one of the most common measures of inflation.
4. U.S. inflation was low through most of the early part of
the twentieth century, rose sharply in the 1970s and
early 1980s, fell to lower levels in the rest of the 1980s,
and remained low throughout the 1990s. In different
countries at different times, inflation has sometimes
been very high, with prices increasing by factors of tens
or hundreds in a given year.
KEY TERMS
inflation rate
deflation
consumer price index (CPI)
producer price index
REVIEW QUESTIONS
1. When the prices of different goods change at different
rates, how do we measure inflation?
2. Are all groups of people affected equally by inflation?
Why or why not?
3. What are the major costs of inflation?
4. Which decade, the 1970s, 1980s, or 1990s, saw the highest
average rate of inflation in the United States? Which
of these decades saw the lowest average inflation rate?
PROBLEMS
1. Geoffrey spends his allowance on three items: candy,
magazines, and movie video rentals. He is currently
receiving an allowance of $34 per month, which he is
using to rent 4 movies at $3 apiece, buy 10 candy bars
at $1 apiece, and purchase 4 magazines at $3 apiece. In
each of the following cases, calculate Geoffrey’s price
index (CPI) for this basket of goods, with the current
price level equal to 100:
(a) The price of movies rises to $4.
(b) The price of movies increases by $1 and the price of
candy bars falls by $0.20.
(c) The prices of movies and magazines both increase
by $1 and the price of candy bars falls by $0.20.
2. An increase in the consumer price index will often affect
different groups in different ways. Think about how different
groups will purchase items such as housing,
travel, or education in the CPI basket, and explain why
they will be affected differently by increases in components
of the CPI. How would you calculate an “urban
CPI” or a “rural CPI”?
3. Using the following information on the consumer price
index, calculate the rate of inflation in each year from
2000 to 2003.
Year 1999 2000 2001 2002 2003
CPI 166.6 172.2 177.1 179.9 184
4. Wartimes are usually associated with inflation. According
to the Inflation Calculator at www.bls.gov/cpi/home.htm,
what would $100 in 1860 be worth in 1865? By how
much did prices rise during the Civil War?
5. According to the Bureau of Labor Statistics’s Inflation
Calculator (see Question 4), by how much did
prices rise between 1973 and 1983? 1983 and 1993?
Between 1993 and 2003? During which of these tenyear
periods was inflation the highest? By how much
did prices rise between 1983 and 2003? Between 1973
and 2003?
REVIEW AND PRACTICE ∂ 521