Question

The following two tables are used in all the following questions. Thus, part of the following questions involve determining exactly what you need for each question. Please assume that for GDP calculations, only two things are produced in this economy: houses (a good) and dog walking (a service). Please ignore coffee for the GDP calculations. Also, assume that 2018 is the base year for GDP calculations. The base year for the CPI is not given.

Year	Houses Produced (millions)	Average House Price	Dogs Walked (millions)	Average Dog Walking Fee
2018	1.00	$200,000	1,000	$25.00
2019	1.01	$208,000	1,010	$25.10

Year	Nominal price of a cup of coffee	CPI	CPI Market Basket	Nominal interest rate on a car loan
1989	$1.70	180	$28,800	5%
1999	$1.85	200	$32,000	3%
2009	$1.95	220	$35,200	2%
2018	$1.98	245	$39,200	5%
2019	$2.00	250	$40,000	6%

1. How much did the real price of coffee change from 2018 to 2019?
2. Without making a calculation, which did you think increased more from 2018 to 2019 -- real or nominal GDP? Why?
3. Convert the nominal price of coffee from 1989 to 2019 prices.
4. What was the economy's growth rate from 2018 to 2019?
5. Given the data in these tables, can you compute the value of the market basket in the base year of the CPI?
6. What was the economy's inflation rate from 2018 to 2019?

Answer 1

1) Inflation in year 2018-19 = Increase in CPI during 2018-19 = (250/245)-1 = 0.020408 = 2.04 approx

Nominal increase in coffee price in 2018-19 = (2/1.98)-1 =0.0101 = 1.01%

Real change = Nominal change - inflation

Therefore real change in price of coffee = 1.01 - 2. 05 = -1.03 %. So price of coffee has declined by 1.03% in real terms.

2) Generally due to inflation rate, the nominal growth/increases get reduced.

Since, Real increase = Nominal increase - inflation

Hence, we would expect nominal GDP growth to be more than the real GDP growth.   

3) Nominal price of coffee from 1989 to 2019 prices = (Price of coffee in 1989) *(CPI₂₀₁₉/CPI₁₉₈₉)

= 1.70 *(250/180) = $2.36

4) For growth rate of the economy we need the GDP for the year 2018 and 2019

GDP for year ₂₀₁₈ = (Average House Price)₂₀₁₈ * (Houses Produced (millions))₂₀₁₈ + (Average Dog Walking Fee)₂₀₁₈ * (Dogs Walked)₂₀₁₈ (millions) = $225000 (millions)

GDP for year ₂₀₁₉ = (Average House Price)₂₀₁₉ * (Houses Produced (millions))₂₀₁₉ + (Average Dog Walking Fee)₂₀₁₉ * (Dogs Walked)₂₀₁₉ (millions) = $235431 (millions)

Therefore nominal growth rate for the year 2018-19 =( ((GDP for year ₂₀₁₉)/(GDP for year ₂₀₁₈)) - 1 )*100

= ((235431/225000)-1) * 100 = 4.64%

Therefore real growth rate for the year 2018-19 = Therefore nominal growth rate for the year 2018-19 - inflation rate

= 4.64% - 2.04% = 2.6%