Question

1. Calculating inflation using a simple price index

Consider a fictional price index, the College Student Price Index (CSPI), based on a typical college student’s annual purchases. Suppose the following table shows information on the market basket for the CSPI and the prices of each of the goods in 2017, 2018, and 2019.

The cost of each item in the basket and the total cost of the basket are shown for 2017.

Perform these same calculations for 2018 and 2019, and enter the results in the following table.

	Quantity in Basket	2017		2018		2019
		Price	Cost	Price	Cost	Price	Cost
		(Dollars)	(Dollars)	(Dollars)	(Dollars)	(Dollars)	(Dollars)
Notebooks	15	2	30	5		8
Calculators	1	70	70	100		130
Large coffees	250	2	500	2		2
Energy drinks	50	2	100	4		6
Textbooks	10	120	1,200	150		180
Total cost			1,900
Price index			100

Suppose the base year for this price index is 2017.

In the last row of the table, calculate and enter the value of the CSPI for the remaining years.

Between 2017 and 2018, the CSPI increased by

. Between 2018 and 2019, the CSPI increased by

.

Which of the following, if true, would illustrate why price indexes such as the CSPI might overstate inflation in the cost of going to college? Check all that apply.

As the price of textbooks increased, more and more students turned to the used-book market or chose not to buy textbooks at all, instead using the copies on reserve in the library.

A new, safe method of memory enhancement became available for purchase.

Professors required each student to buy 15 notebooks, regardless of the price.

The quality and design of calculators improved dramatically from 2017 to 2019. For example, calculators made in 2019 accept memory cards, whereas those made in 2017 do not, but this quality change is hard to measure.

Answer 1

Cost = quantity in basket* current year prices

Cost in 2018 can be calculated by multiplying the quantity with the current year prices (2018). Cost in 2019 can be calculated by multiplying the quantity with the current year prices (2019). Table 1 shows the costs and total costs. Sum of the costs can be calculated by adding the sum of all the individual costs.

Table 1 depicts the value and table 2 shows the calculations.

Table 1

Table 2

CSPI= current total cost/ base total cost *100

CSPI (2018) = (2375/1900) * 100 = 125

CSPI (2019) = (2850/1900) * 100 = 150

Growth rate of CSPI = (current year CSPI – previous year CSPI) *100 / previous year CSPI

Growth rate of CSPI (2018) = (125-100)*100/100 = 25%

Growth rate of CSPI (2019) = (150-125)*100/125 = 20%

Between 2017 and 2018, the growth rate of CSPI is 25%. Between 2018 and 2019, the growth rate of CSPI is 20%.

The following statements are true:

As the price of textbooks increased, more and more students turned to the used-book market or chose not to buy textbooks at all, instead using the copies on reserve in the library.

A new, safe method of memory enhancement became available for purchase.

The quality and design of calculators improved dramatically from 2017 to 2019. For example, calculators made in 2019 accept memory cards, whereas those made in 2017 do not, but this quality change is hard to measure.