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Consumer Price Index CPI is the government’s “most important” statistic Announced monthly by Bureau of Labor Statistics Measures changes in prices of goods and services over time Affects elections, economy, government policies, Social Security, pensions According to the Bureau of Labor Statistics: “The CPI directly affects incomes of over 80 million people.” CPI http://www.bls.gov/news.release/pdf/cpi.pdf How to compare prices from year to year? – Carleton’s tuition 2001: $25,371 – Carleton’s tuition 2011: $42,690 Did the price really go up after inflation? Carleton’s tuition in 1956: $730.00 CPI is an Index Number value index number = 100 base number An index number measures the value of a variable relative to a base period (the percent change from a base period) Carleton’s 2011 tuition relative to 2001 – (42,690 / 25,371 ) x 100 = 168.26 Carleton tuition index number for 2011, with 2001 as base period, is 168.26 Tuition has increased 68.26% since 2001 What’s Carleton’s tuition index number relative to 1956? How much has tuition increased since 1956? Fixed market basket price index What about inflation? CPI attempts to index the price of all goods and services CPI is an index number for the total cost of a fixed collection of goods and services This is called a fixed market basket price index and is based on hundreds of items Fixed market baskets for a student price index Good/service 1980 quantity 1980 price 1980 cost Pizza 100 $7 each $700 Textbooks 20 $40 each $800 Haircuts 5 $5 each $25 Total cost $1,525 Good/service 1980 quantity 2012 price 2012 cost Pizza Textbooks 100 20 $16 each $1,600 $100 each $2,000 Haircuts 5 $12 each $60 Total cost $3,660 Student Price Index (SPI) SPI will compare the cost of the same collection of goods and services over time The same goods and services that cost $1,525 in 1980, cost $3,660 today. SPI for 2012 with 1980 as a base period is (3660/1525) x 100 = 240.00 Student prices increased 140% from 1980 to 2012, about one-and-a-half times. Using the CPI CPI is a market basket price index based on hundreds of items CPI base period is 1982-84: “1982-84 = 100” Having an annual price index allows us to convert amounts at different times into dollars of the same year Historically 20th century was time of inflation--prices rose throughout the century increasing rapidly after 1973 CPI Consumer Price Index Last 8 years of CPIs Year CPI 2004 188.9 2005 195.3 2006 201.6 2007 207.342 2008 215.303 2009 214.537 2010 218.056 2011 224.939 Adjusting for changes in buying power “Constant dollars,” “real income” means dollars represent same buying power even though they may describe different years Basic Conversion Formula: To convert an amount in dollars at time A to the amount with the same buying power at time B: dollars at time B = dollars at time A CPI at time B CPI at time A Examples – Carleton’s tuition 2001: $25,371 vs. 2011: $42,690 Tuition rose nominally from $25,371 to $42,690 Nominal tuition rose (42690-25371)/25371 = 68.26% But the comparison should be made in constant dollars 2011 dollars = 2001 dollars * (2011 CPI/2001 CPI) = $25,371 * (224.939/177.1) = $32,224 $25,371 2001 dollars = $32,224 2011 dollars In constant (2011) dollars, tuition rose from $32,224 to $42,690 Tuition rose in real terms by (42690-32224)/32224 = 32.5% Examples – Carleton’s tuition 2001: $25, 371 vs. 2011: $42,690 We could have done the calculation in constant 2001 dollars instead of 2011 dollars 2001 dollars = 2011 dollars * (2001 CPI/2011 CPI) = $42,690 * (177.1/224.939) = $33,611 So $42,690 2011 dollars is equal to $33,611 2001 dollars In constant (2001) dollars, tuition rose from $25,371 to $33,611 Tuition rose in real terms by (33,611-25,371)/25,371 = 32.5% We get the same percentage increase as before because we’re working in constant dollars Example – Pizza 1962: The price of a slice of pizza in Boston’s Park Street subway station was 25¢ In today’s prices that’s (25¢) * (224.939 / 30.2) = 186.21¢ = $1.86 A pizza slice that’s $2.50 today rose (2.50-.25)/.25 = 9 = 900% (10 fold) in nominal terms. The price has increased (2.50-1.86)/1.86 = 0.34 = 34% in real dollars Notes on the CPI The CPI represents the purchases of people living in urban areas (covers about 80% of U.S. population) The market basket (goods and services) is determined by the Consumer Expenditure Survey of 29,000 households (they use random sampling) Prices are also determined by surveys (80,000 prices in 85 cities at a representative sample of stores) Exercise: The Minimum Wage • Restate the minimum wage in 1970 dollars • Make two line graphs on the same axes, showing the actual wage and the real wage in constant 1970 $$ • Explain what your graph shows about the history of the minimum wage • How much has the minimum wage increased since 1970, both nominally and in real terms? 0011 0010 1010 1101 0001 0100 1011 Year Minimum Wage 1960 1965 1970 1975 $1.00 $1.25 $1.60 $2.10 1980 1985 1990 $3.10 $3.35 $3.80 1995 2000 2005 2010 1 2 4 $4.25 $5.15 $5.15 $7.25