Question

In: Economics

Sarah works for a firm that automaticallyadjusts her wages to the annual rate of inflation....

Sarah works for a firm that automatically adjusts her wages to the annual rate of inflation.Bob works for a firm that grants its employees a 5% annual income increase. Milt is retired and receives two payments: a pension payment that is fixed at $2,000 per month and a Social Security payment of $1,000 per month. The Social Security payment is indexed to the inflation rate in the community.

a. Suppose the rate of inflation is 8% this year. What is the effect of this inflation rate on Sarah, Bob, and Milt. Who is left in worse shape with this inflation? Does anyone end up better off despite this inflation rate? (better off ~ their wage has a higher purchasing power than before)

___ Sarah's Purchasing Power

___ Bob's Purchasing Power

___ Milt's Purchasing Power

A. Increase

B. Decrease

C. Is the same

-----------------------------------

b. When inflation rate is 3%, what is the effect on Milt's purchasing power?

A. Increase

B. Decrease

C. Is the same

------------------------------------

c. Suppose the rate of inflation is -5% this year. Describe the effect of this inflation rate on Sarah, Bob, and Milt.

___ Sarah's Purchasing Power

___ Bob's Purchasing Power

___ Milt's Purchasing Power

A. Increase

B. Decrease

C. Is the same

------------------------------

Lastly, what inflation rate would make Milt better off and why?

Solutions

Expert Solution

a) Bob is left in worse shape with this inflation as his wage is increased by 5% and inflation is 8%..

No anyone is not ending up in better off condition with this inflation rate..

Sarah's purchasing power is the same...

Bob's purchasing power decrease...

Milt's purchasing power decrease...

b) As the inflation rate is 3%, Milt's purchasing power is decreased. As for $1000 social security payment in indexed to inflation but $2000 is fixed. Hence the Milt's purchasing power is decreased...

c) Sarah's purchasing power is the same..

Bob's purchasing power increase...

Milt's purchasing power is also increase..

As Sarah's wages adjusted to inflation rate it's remain same. On the other hand Bob's get an increase of 5% thus his purchasing power increase and Milt's purchasing power also increases as he gets a fixed $2000 inspite of inflation..

Negative inflation rate would make Milt better off (wage has a higher purchasing power) as he gets a fixed pension payment of $2000 and with negative inflation rate which has more purchasing power...

Rahul Sunny answered 2 years ago
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