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Chapter 6

Chapter 6 - Measuring the cost of living

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McMaster University
Bridget O' Shaughnessy

rdEconomics Textbook Notes February 3 2012Chapter 6Measuring the cost of livingCPI is used to monitor changes in the cost of living over time When CPI risestypical family has to spend more dollars to maintain same standard of living Inflation is used to describe a situation in which the economys overall price level is rising Inflation rate is the percentage change in the price level from the previous periodCPI is a measure of the overall costs of the goods and services bought by a typical consumerComputed monthly by Statistics Canada How CPI is calculated Data on over 600 different goods and services is used 5 steps Statistics Canada follows 1 Determine the basket y Determine which prices are most important to the typical consumerIe If the typical consumer buys more hot dogs than hamburgers then hotdogs should be given a greater weight in measuring the cost of livingSC sets these weights by surveying consumers and finding the basket of goods and services that the typical consumer buys 2 Find the prices y Of each of the goods and services in the basket for each point in time 3 Compute the baskets cost y Use the data on prices to calculate the cost of basket of goods and services at different timesBy keeping the basket of goods the same we are isolating the effects of price changes from the effect of any quantity changes that might be occurring 4 Choose a base year and compute the index y Make on year as the base year which is the bench mark against which other years are comparedIndex is then calculated as Price of basket of goodsservices in current year CPIx100 Price of basket in case year y The resulting number ofequation is the CPI 5 Compute the inflation rate y Use CPI to compute inflation rate which is the percentage change in the price index from the preceding periodRate is calculated as CPI in year 2CPI in year 1Inflation rate in year 2x100 CPI in year 1SC determines how quickly the cost of living for the typical consumer is rising Also determines core inflation which excludes the most volatile components from the CPI basket of goods and services
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