Inflation
Agec 217, Summer 2007
Inflation
•Top Box Office Movies of All Time:
•Gone with the Wind (1939): ranked 77th
–Tickets in 1939$0.23
–Tickets in 2007$6.58
Inflation
•Inflation: An increase in the overall level ofprices in the economy
•Inflation Rate: The percentage change inprices from the preceding period
Historical Inflation
Inflation
•Your rent under 20% inflation during fouryears at Purdue
–Year 1: $ 500 / month
–Year 2: $ 600 / month
–Year 3: $ 720 / month
–Year 4: $ 864 / month
–Year 5: $1,037 / month
•Rent doubles in 4 years (year 5 – year 1)
Inflation
•What if prices increase dramatically andwages do not keep up
•Hyperinflation: out of control inflation, oftenabove the 20% - 30% range
Inflation
•Mexican Peso
–1993: Nuevo Peso = 1,000 Pesos
–1996: Dropped the “Nuevo Term”
•Essentially devalued the Peso multiple of1,000
Inflation
•Hungary after WWII
–July, 1946 (Pengo)
• Inflation Rate
41,900,000,000,000,000%
•Prices doubled every15 hours
•Forint: August, 1946
–400 octillion Pengo
Inflation
•Top Box Office Movies of All Time
–(adjusted for inflation):
•Gone with the Wind (1939): now ranked 1st
–Tickets in 1939$0.23
–Tickets in 2007$6.58
Inflation
•Issues with GDP Deflator for Inflation
–Measure what is produced domestically, not whatconsumers actually buy
•Imports consumed but not produced here
•Government and Investment produced here but notconsumed
–Current products disappear and new productsappear
Consumer Price Index
•Measures a “basket” of goods as purchased bythe typical consumer
–Only addresses the first problem of GDP deflator
–Still issue with changing baskets over time
CPI Data Collection
-Current CPI: 2001 and 2002
-10,000 families interviewed each quarter
- 7,500 families tracked habits for two weeks
-Only looks at average urban consumers (87% ofpopulation)
CPI Components
•FOOD AND BEVERAGES
•HOUSING
•APPAREL
•TRANSPORTATION
•MEDICAL CARE
•RECREATION
•EDUCATION AND COMMUNICATION
•OTHER GOODS AND SERVICES
•GOVERNMENT FEES FOR SERVICES
•TAXES PAID WITH PURCHASE OF OTHER GOODS
CPI Measured
•After surveying consumers, the Bureau ofLabor Statistics determines the following dietsand prices:
–2005: 500 pizza slices and 300 sodas
•Prices: pizza = $1.00 and soda = $0.50
–2006: 550 pizza slices and 330 sodas
•Prices: pizza = $1.10 and soda = $1.00
CPI Measured
•The Bureau of Labor Statistics determines atypical consumer basket based on survey data:
–Let’s say the consumer basket is
•525 pizza slices and 315 sodas
CPI Measured
•Price of the consumer’s basket
–2005
•525 * $1.00 + 315 * $0.50 = $682.50
–2006
•525 * $1.10 + 315 * $1.00 = $895.50
–Percent change = 31.2% inflation
CPI Measured
•Consumer Price Index (base year = 2005)
–Calculation
•(Basket Price / Basket Price for base year) * 100
–2005
•($682.5 / 682.5) * 100 = 100
–2006
•($895.5/ 682.5) * 100 = 131
Using CPI
•Calculate Inflation from CPI (all CPI’s must bebased on the same base year)
–Calculation
•((CPI current year/CPI previous year) – 1) * 100
–2006
•((131 / 100) – 1) * 100 = 31% inflation
CPI Issues
•What if the basket changes?
•Computers and comparable products over time
•VCR’s and price inflation
Historical CPI and GDP deflator
Summary
•CPI is different than the GDP deflator in that ismeasures what consumers actually use, asopposed to what is produced domestically.While there are some drawbacks, it is themost widely used measure of inflation.