| IV. Applications (30 points) 1. In a simple economy, people consume only 2 goo

Question

| IV. Applications (30 points) 1. In a simple economy, people consume only 2 goods, food and clothing. The market basket of goods used to compute the CPi consists of 50 units of food and 10 units of clothing. (6 points) S4 S6 Food Clothing 2002 price per unit 2003 price per unit $10 $20 a. What are the percentage increases in the price of food and in the price of clothing? b. What is the percentage increase in the CPI? c. Do these price changes affect all consumers to the same extent? Explain. by a 00 hillion more next year than this year. (6 points) sate rise

Explanation / Answer

a) Percentage increase in the price of food = [(6-4) / 4] * 100 = 50%

Percentage increase in the price of clothing = [(20 - 10) / 10] * 100 = 100%

b) Cost of the basket of goods in 2002

= ($4 * 50) + ($10 * 10) = $300

Cost of the basket of goods in 2003

= ($6 * 50) + ($20 * 10) = $500

CPI in 2002 = (300 / 300) * 100 = 100

CPI in 2003 = (500 / 300) * 100 = 166.67

Percentage increase in the CPI = [(166.67 - 100) / 100] * 100. = 66.67%

c) No. For those Consumers whose income increases with the increase in the price will be affected less than the Consumers whose income increases less than the increase in the price.

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