5. The CPI is 1.100 in year one, 1.210 in year two, and 1.331 in year three. The

Question

5. The CPI is 1.100 in year one, 1.210 in year two, and 1.331 in year three. The price of pencils increases by 7% between year 1 and year 2, and by another 7% between year 2 and year 3. The price level is increasing, the inflation rate is _______, and the relative price of pencils is _________. A. increasing; increasing B. constant; increasing C. constant; decreasing D. increasing; decreasing 5. The CPI is 1.100 in year one, 1.210 in year two, and 1.331 in year three. The price of pencils increases by 7% between year 1 and year 2, and by another 7% between year 2 and year 3. The price level is increasing, the inflation rate is _______, and the relative price of pencils is _________. A. increasing; increasing B. constant; increasing C. constant; decreasing D. increasing; decreasing 5. The CPI is 1.100 in year one, 1.210 in year two, and 1.331 in year three. The price of pencils increases by 7% between year 1 and year 2, and by another 7% between year 2 and year 3. The price level is increasing, the inflation rate is _______, and the relative price of pencils is _________. A. increasing; increasing B. constant; increasing C. constant; decreasing D. increasing; decreasing

Explanation / Answer

From the CPI, we find that the general inflation rate between year 1 and 2 is (1.210 - 1.100)/1.100 = 10%. From the CPI, we find that the general inflation rate between year 2 and 3 is (1.331 - 1.210)/1.210 = 10%. Hence the price level is increasing, the inflation rate is constant, and the relative price of pencils is decreasing.

Option C is correct.

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