Question

5. Problems and Applications Q5

Consider the effects of inflation in an economy composed of only two people: Jacques, a bean farmer, and Kyoko, a rice farmer. Jacques and Kyoko both always consume equal amounts of rice and beans. In 2016 the price of beans was $1, and the price of rice was $4.

Suppose that in 2017 the price of beans was $2 and the price of rice was $8.

Inflation was.

Indicate whether Jacques and Kyoko were better off, worse off, or unaffected by the changes in prices.

	Better Off	Worse Off	Unaffected
Jacques
Kyoko

Now suppose that in 2017 the price of beans was $2 and the price of rice was $4.80.

In this case, inflation was.

Indicate whether Jacques and Kyoko were better off, worse off, or unaffected by the changes in prices.

	Better Off	Worse Off	Unaffected
Jacques
Kyoko

Now suppose that in 2017, the price of beans was $2 and the price of rice was $1.60.

In this case, inflation was.

Indicate whether Jacques and Kyoko were better off, worse off, or unaffected by the changes in prices.

	Better Off	Worse Off	Unaffected
Jacques
Kyoko

What matters more to Jacques and Kyoko?

The relative price of rice and beans

The overall inflation rate

Answer 1

Answer :-

Jacques and Kyoko both always consume equal amounts of rice and beans. In 2016 the price of beans was $5, and the price of rice was $3. Suppose that in 2017 the price of beans was $10 and the price of rice was $6. Observe that a basket of these two goods in 2016 was worth $3 + $5 = $8 and in 2017, it rose to $10 + $6 = $16. Hence the cost rises from $8 to $16, so inflation rate was 800/8 = 100%

Inflation was______100___________%

Indicate whether Jacques and Kyoko were better off, worse off, or unaffected by the changes in prices.

	Better Off	Worse Off	Unaffected
Jacques		worse off
Kyoko		worse off

Now suppose that in 2017 the price of beans was $7.50 and the price of rice was $6. This makes the consumption basket worth $7.50 + $6 = $13.50. Hence inflation is (13.50 - 8)*100/8 = 68.75%

In this case, inflation was______68.75_____%

Indicate whether Jacques and Kyoko were better off, worse off, or unaffected by the changes in prices.

	Better Off	Worse Off	Unaffected
Jacques		Worse off
Kyoko		Worse off

Now suppose that in 2017, the price of beans was $1.50 and the price of rice was $6. Basket is worth $7.50 so there is a deflation = (7.50 - 8)*100/8 =  -6.25%

In this case, inflation was__-6.25%_____%

Indicate whether Jacques and Kyoko were better off, worse off, or unaffected by the changes in prices.

	Better Off	Worse Off	Unaffected
Jacques	Better off
Kyoko	Better off

What matters more to Jacques and Kyoko?