24

Measuring the Cost of Living
Babe Ruth, the famous baseball player, earned $80,000 in 1931. Today, the best baseball
players can earn 100 times as much as did Babe Ruth in 1931. However, prices have also
risen since 1931. We can conclude that
a. the best baseball players today are about 100 times better off than Babe Ruth was in
1931.
b. because prices have also risen, the standard of living of baseball stars hasnt changed
since 1931.
c. one cannot make judgements about changes in the standard of living based on
changes in prices and changes in incomes.
d. one cannot determine whether baseball stars today enjoy a higher standard of living
than Babe Ruth did in 1931 without additional information regarding increases in
prices since 1931.
The statistic used to convert dollar amounts into meaningful measures of purchasing
power is called
a. the GDP deflator.
b. the wholesale price index.
c. the consumer price index.
d. the producer price index.
When the consumer price index rises, the typical family

a. has to spend more dollars to maintain the same standard of living.
b. can spend fewer dollars to maintain the same standard of living.
c. finds that its standard of living is not affected.
d. can offset the rising prices by saving more.
. The consumer price index is used to

a. track changes in the level of wholesale prices in the economy.
b. monitor changes in the cost of living.
c. monitor changes in the level of real GDP.
d. track changes in the stock market.
Harcourt, Inc. items and derived items copyright 2001 by Harcourt, Inc.
The term inflation is used to describe a situation in which

a. incomes in the economy are increasing.
b. stock market prices are rising.
c. the economy is growing rapidly.
d. the overall level of prices in the economy is increasing.
TYPE: M SECTION: INT OBJECTIVE: RANDOM: Y
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When the overall level of prices in the economy is increasing, we say that the economy is
experiencing
a. economic growth.
b. inflation.
c. unemployment.
d. deflation.
The inflation rate is defined as

a. the cost of inflation.
b. the rate which must be paid for borrowing.
c. the percentage change in the price level from the previous period.
d. the percentage change in output from the previous period.
The inflation rate is

a. a key variable in guiding macroeconomic policy.
b. a closely watched aspect of macroeconomic performance.
c. interesting from the standpoint of individual households, but of little interest to
policymakers.
d. Answers a and b are both correct.
The CPI is a measure of

a. the overall cost of goods and services bought by a typical consumer.
b. the overall cost of inputs purchased by a typical producer.
c. the overall cost of goods and services produced in the economy.
d. the overall cost of stocks on the New York Stock Exchange.
The CPI is calculated by which of the following agencies?

a. the National Price Board
b. the Internal Revenue Service
c. the Bureau of Labor Statistics
d. the Congressional Budget Office
The CPI is calculated

a. weekly.
b. monthly.
c. quarterly.
d. yearly.
What is the basket of goods used to construct the CPI?

a. A random sample of all goods and services produced in the economy.
b. The goods and services determined by the American Medical Association to be most
healthy.
c. The goods and services typically bought by consumers, according to Bureau of Labor
Statistics surveys.
d. the least expensive goods and services in each major category of consumer
expenditures.
When constructing the CPI, the Bureau of Labor Statistics tries to include
a. all goods and services produced in the economy.
b. all goods and services purchased in the economy.
c. all goods and services that typical consumers buy.
d. The Bureau of Labor Statistics does not construct the CPI.
In the CPI, goods and services are weighted according to

a. whether the goods and services are necessities or luxuries.
b. the levels of production of the goods and services in the domestic economy.
c. a random weighting scheme.
d. how much consumers buy of each item.
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How are the weights on the various goods and services in the CPI basket determined?
a. All goods and services are weighted equally.
b. A survey is conducted to determine how much of each good and service typical
consumers purchase.
c. Each good and service is weighted according to its price.
d. Weights are randomly assigned.
The steps involved in calculating the consumer price index include, in order:
a. fix the basket, find the prices, compute the baskets cost, choose a base year and
compute the index, compute the inflation rate
b. choose a base year, find the prices, fix the basket, compute the baskets cost, compute
the index and the inflation rate
c. fix the basket, find the prices, compute the inflation rate, choose a base year and
compute the index
d. choose a base year, fix the basket, compute the inflation rate, compute the baskets
cost and compute the index
In the CPI, the base year is

a. the benchmark against which other years are compared, updated each year.
b. the benchmark against which other years are compared.
c. a particularly bad year for consumer prices.
d. always 1989.
For any given year, the CPI is

a. the price of the basket of goods and services in the base year divided by the price of
the basket in the given year, then divided by 100.
b. higher than the previous year.
c. the price of the basket of goods and services in the base year divided by the price of
the basket in the given year, then multiplied by 100.
d. the price of the basket of goods and services in the given year divided by the price of
the basket in the base year, then multiplied by 100.
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By far the largest category of goods and services in the CPI basket is
a. food and beverages.
b. transportation.
c. housing.
d. recreation
Categories of U.S. consumer spending, ranked from largest to smallest are:

a. food and beverages, housing, transportation, and medical care.
b. housing, transportation, food and beverages, and medical care.
c. medical care, housing, food and beverages, and transportation.
d. housing, food and beverages, transportation, and medical care.
About what percentage of U.S. consumer spending does food and drink make up?
a. 6 percent
b. 16 percent
c. 4 percent
d. 40 percent
Which of the following makes up the smallest category of consumer spending in the U.S.?
a. housing
b. apparel
c. food and beverages
d. transportation
In U.S. consumer spending, housing makes up _____% of the total, food and beverages
make up _____% of the total, and transportation makes up _____% of the total.
a. 50, 26, 27
b. 40, 16, 17
c. 17, 40, 16
d. 50, 17, 16
b. 40, 16, 17
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If the cost of housing increases by 20 percent, the CPI is likely to increase by

a. about 20 percent.
b. about 40 percent.
c. about 17 percent.
d. about 8 percent.
If the cost of medical care increases by 50 percent, the CPI is likely to increase by
a. about 3 percent.
b. about 6 percent.
c. about 30 percent.
d. about 40 percent.
If the cost of transportation and the cost of food and beverages increase by 30 percent, the
CPI is likely to increase by
a. about 30 percent.
b. about 10 percent.
c. about 3 percent.
d. about 33 percent.
If the CPI increases from one year to the next, the economy has experienced
a. stagnation.
b. stagflation.
c. inflation.
d. growth.
The inflation rate is calculated by

a. a survey of consumer spending.
b. adding up the price increases of all goods and services.
c. determining the percentage increase in the price index from the preceding period.
d. averaging the increases in the output of all consumer goods and services.
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If the consumer price index was 100 in the base year and 105 the following year, the
inflation rate was
a. 105 percent.
b. 100 percent.
c. 10.5 percent.
d. 5 percent.
If the price index in the first year was 90, in the second year was 100, and in the third year
was 95,
a. the economy experienced 10 percent inflation between the first and second years and
5 percent inflation between the second and third years.
b. the economy experienced 10 percent inflation between the first and second years and
5 percent deflation between the second and third years.
c. the economy experienced 11 percent inflation between the first and second years and
5 percent inflation between the second and third years.
d. the economy experienced 11 percent inflation between the first and second years and
5 percent deflation between the second and third years.
The price index in 2001 is 120, and in 2002 the price index is 126. What is the inflation rate?
a. 5 percent
b. 6 percent
c. 26 percent
d. The inflation rate is impossible to determine without knowing the base year.
The price index in the first year is 100, in the second year is 90, and in the third year is 80.
What is the deflation rate between the first and second year, and between the second and
third year?
a. 10 percent between the first and second year, 20 percent between the second and third
year
b. 10 percent between the first and second year, 11 percent between the second and third
year
c. 11 percent between the first and second year, 12 percent between the second and third
year
d. 11 percent between the first and second year, 22 percent between the second and third
year
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The price index in the first year is 125, in the second year is 150, and in the third year is
200. What is the inflation rate between the first and second year and between the second
and third year?
a. 20 percent between the first and second year, 33 percent between the second and third
year
b. 50 percent between the first and second year, 100 percent between the second and
third year
c. 25 percent between the first and second year, 75 percent between the second and third
year
d. 25 percent between the first and second year, 50 percent between the second and third
year
Which change in the price index shows the greatest rate of inflation: 100 to 110, 150 to 165,
or 180 to 198?
a. 100 to 110
b. 150 to 165
c. 180 to 198
d. All changes show the same rate of inflation.
Which change in the price index shows the greatest rate of inflation: 80 to 96, 100 to 125, or
150 to 180?
a. 80 to 96
b. 100 to 125
c. 150 to 180
d. All changes show the same rate of inflation.
Which change in the price index shows the greatest rate of deflation?
a. 150 to 120
b. 120 to 100
c. 100 to 90
d. 100 to 150
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Which of the following changes in the price index shows the greatest rate of inflation or
deflation?
a. 120 to 100
b. 100 to 120
c. 120 to 140
d. All of the above changes show the same rate of change.
About how many goods and services are included in the basket which forms the basis for
the consumer price index?
a. millions
b. thousands
c. hundreds
d. fewer than 100
The producer price index measures

a. the cost of a basket of goods and services sold by producers.
b. the cost of a basket of goods and services bought by firms.
c. the cost of a basket of goods and services typical of those produced in the economy.
d. the cost of a basket of goods and services produced for a typical consumer.
Changes in the producer price index are often thought to be useful in predicting
a. changes in consumer confidence.
b. changes in the rate of output of goods and services.
c. changes in the stock price index.
d. changes in the consumer price index.
Suppose than in 2002, the producer price index increases by 7 percent. As a result,
economists most likely will predict that
a. GDP will increase by 7 percent in the next year.
b. the consumer price index will increase by 7 percent in the next year.
c.
the exchange rate will increase in the future.
d. the consumer price index will increase in the future.
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The goal of the consumer price index is

a. to measure changes in GDP.
b. to measure changes in the cost of living.
c. to measure changes in the cost of doing business.
d. to measure changes in the production of consumer goods.
Which of the following is the most accurate statement about the CPI as a measure of the
cost of living?
a. The CPI is not a perfect measure of the cost of living.
b. The CPI is useless as a measure of the cost of living.
c. The CPI is a perfect measure of the cost of living.
d. There are ten major problems that make the CPI of little use as a measure of the cost
of living.
The consumer price index

a. is not very useful as a measure of the cost of living.
b. is a perfect measure of the cost of living.
c. is not used as a measure of the cost of living.
d. is not a perfect measure of the cost of living.
d. is not a perfect measure of the cost of living.
Which of the following is not a widely-acknowledged problem with the CPI as a measure
of the cost of living?
a. substitution bias
b. introduction of new goods
c. unmeasured quality change
d. unmeasured price change
e. All of the above are problems with the CPI.
The substitution bias in the consumer price index refers to

a. the substitution of new goods for old goods in the purchases of consumers.
b. the fact that consumers substitute toward goods that have become relatively less
expensive.
c. the substitution of new prices for old prices in the basket of goods from one year to
the next.
d. the substitution of quality for quantity in consumer purchases over time.
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When prices change from year to year,

a. they all change proportionately.
b. they always increase.
c. they usually decrease.
d. they do not all change proportionately.
When prices change by differing degrees, consumers respond to the price changes by
a. buying less of goods whose prices have risen by relatively large amounts.
b. buying less of goods whose prices have fallen by relatively large amounts.
c. buying more of all goods.
d. buying less of all goods.
When prices change by differing amounts, consumers substitute _____ the goods that have
become relatively _____ expensive.
a. toward, more
b. away from, more
c. toward, less
d. Both b and c are correct.
Because the CPI is based on a fixed basket of goods, substitution bias causes the index to
a. overstate the increase in the cost of living from one year to the next.
b. ignore any increase in the cost of living from one year to the next.
c. understate the increase in the cost of living from one year to the next.
d. sometimes understate, and sometimes overstate the increase in the cost of living from
one year to the next.
By not taking into account the possibility of consumer substitution, the CPI _____ the
increase in the cost of living from one period to the next.
a. understates
b. overstates
c. sometimes understates and sometimes overstates
d. None of the above answers are correct.
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When new products are introduced, consumers have more variety from which to choose.
This greater choice makes each dollar
a. worth more.
b. worth less.
c. harder to obtain.
d. Both b and c are correct.
a. worth more.
Because the CPI is based on a fixed basket of goods, the introduction of new goods and
services in the economy causes the CPI to overestimate the cost of living. This is so
because
a. new goods and services are always of higher quality than existing goods and services.
b. new goods and services cost less than existing goods and services.
c. new goods and services cost more than existing goods and services.
d. when a new good is introduced, it gives consumers greater choice, thus reducing the
amount they must spend to maintain their standard of living.
d. when a new good is introduced, it gives consumers greater choice, thus reducing the
amount they must spend to maintain their standard of living.
Unmeasured quality change is a problem in the CPI because

a. if the quality of a good deteriorates, the purchasing power of a dollar decreases even
if the price of the good remains the same.
b. the Bureau of Labor statistics does not attempt to account for quality changes that
affect the standard of living.
c. if the quality of a good improves, the purchasing power of a dollar increases even if
the price of the good remains the same.
d. a and c
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Which of the following is the most accurate statement about the effects of quality change
on the CPI?
a. Even though the BLS adjusts prices of products in the CPI basket when the quality of
the products change, changes in quality are still a problem, because quality is so hard
to measure.
b. Because the BLS adjusts prices of products in the CPI basket when the quality of the
products change, changes in quality are no longer a problem for the CPI.
c. Because the BLS does not adjust the CPI to reflect quality changes, these changes are
not taken into account.
d. Most economists believe that changes in the quality of goods included in the CPI
basket do not bias the CPI as a measure of the cost of living.
Which of the problems in the construction of the CPI is best represented by the invention
of pocket-sized computers?
d. all of the above
e. none of the above
Arturo buys a hand calculator in 1970 for $200. By 2000, the same calculator sells for $1,
and Arturo buys several. What problem in the construction of the CPI does this situation
best illustrate?
a. introduction of new goods
b. substitution bias
d. all of the above
Laura buys word processing software in 2001 for $50. Lauras twin brother Laurence buys
an upgrade of the same software in 2002 for $50. What problem in the construction of the
CPI does this situation best represent?
b. unmeasured quality change
c. introduction of new goods
d. all of the above
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Samantha goes to the grocery store to buy her year's supply of Sprite. As she enters the
soft drink section, she notices that the price of 7-Up has been reduced by 25 percent. She
buys 7-Up instead of Sprite. Which problem in the construction of the CPI does this
situation best represent?
d. all of the above
In 2003, OPEC succeeds in raising world oil prices by 300 percent. This price increase
causes inventors to look at alternative sources of fuel for internal-combustion engines. A
hydrogen-powered engine is developed which is cheaper to operate than gasoline engines.
Which problem in the construction of the CPI does this situation represent?
d. a and b
e. a and c
In 1970, Lyle buys a new stereo system at the Tech HiFi store. He is told by the salesman
that Professor Bose has invented a new stereo speaker which produces concert hall sound
in your living room. Lyle buys a set of Bose 501 speakers. This purchase illustrates which
of the problems in the construction of the CPI?
d. a and b
e. b and c
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Consumers begin purchasing houses incorporating steel studs instead of wooden studs
after the price of lumber increases. This situation best represents which problem in the
construction of the CPI?
d. all of the above
When the price of pork rises, consumers buy more chicken. Which of the problems in the
construction of the CPI does this situation illustrate?
d. a and b
e. a and c
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. Solar-powered lawnmowers are invented as an alternative to existing kinds of lawnmowers.

What problem in the construction of the CPI does this situation best illustrate?
d. a and b
e. b and c
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Which of the following statements best represents economists' beliefs about the bias in the
CPI as a measure of the cost of living?
a. Economists agree that the bias in the CPI is a very serious problem.
b. Economists agree that the bias in the CPI is not a serious problem.
c. Economists agree on the severity of the CPI bias, but there is still debate on what to
do about it.
d. There is still debate among economists on the severity of the CPI bias and what to do
about it.
Most studies conclude that the consumer price index

a. overstates inflation by about 1 percentage point per year.
b. understates inflation by about 1 percentage point per year.
c. overstates inflation by about 3 percentage points per year.
d. understates inflation by about 3 percentage points per year.
Recent changes in the CPI have

a. increased the upward bias in the CPI.
b. reduced the upward bias in the CPI.
c. increased the downward bias in the CPI.
d. reduced the downward bias in the CPI.
The Bureau of Labor Statistics has evidence that the CPI

a. understates the true rate of inflation for the elderly.
b. overstates the true rate of inflation for the elderly.
c. correctly measures the true rate of inflation for the elderly.
d. understates the true rate of inflation for all Americans.
a. understates the true rate of inflation for the elderly.
The measurement problems in the consumer price index as an indicator of the cost of
living are important because
a. many economists have their reputations hanging on the accuracy of the index.
b. many government programs use the CPI to adjust for changes in the overall level of
prices.
c. high rates of inflation cause voters to become unhappy.
d. many economists would find employment if it became necessary to make adjustments
because of the bias.
If Social Security benefits increased every year by the measured inflation rate minus 1
percentage point, government spending would be
a. increased by billions of dollars each year.
b. increased by trillions of dollars each year.
c. reduced by billions of dollars each year.
d. reduced by trillions of dollars each year.
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The GDP deflator reflects

a. the level of prices in the base year relative to the current level of prices.
b. the level of real output in the base year relative to the current level of real output.
c. the current level of real output relative to the level of real output in the base year.
d. the current level of prices relative to the level of prices in the base year.
An important difference between the GDP deflator and the consumer price index is that
a. the GDP deflator reflects the prices of goods and services bought by producers,
whereas the consumer price index reflects the prices of goods and services bought by
consumers.
b. the GDP deflator reflects the prices of all goods and services produced domestically,
whereas the consumer price index reflects the prices of goods and services bought by
consumers.
c. the GDP deflator reflects the prices of all goods and services produced by a nation's
resources, whereas the consumer price index reflects the prices of goods and services
bought by consumers.
d. the GDP deflator reflects the prices of goods and services bought by producers and
consumers, whereas the consumer price index reflects the prices of goods and
services bought by consumers.
If the prices of Canadian-made snowmobiles imported into the United States increase,
a. both the GDP deflator and the consumer price index will increase.
b. neither the GDP deflator nor the consumer price index will increase.
c. the GDP deflator will increase but the consumer price index will not increase.
d. the consumer price index will increase, but the GDP deflator will not increase.
An increase in the price of domestically produced industrial robots will be reflected in

a. both the GDP deflator and the consumer price index.
b. neither the GDP deflator nor the consumer price index.
c. the GDP deflator but not in the consumer price index.
d. the consumer price index but not in the GDP deflator.
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A reduction in the price of large tractors imported into the United States from Russia will
cause the GDP deflator to _____ and the consumer price index to _____.
a. decrease, decrease
b. decrease, remain unchanged
c. remain unchanged, decrease
d. remain unchanged, remain unchanged
An increase in the price of soft drinks produced domestically will be reflected in

a. both the GDP deflator and the consumer price index.
b. neither the GDP deflator nor the consumer price index.
c. the GDP deflator but not in the consumer price index.
d. the consumer price index but not in the GDP deflator.
In the United States, if the price of imported oil rises,

a. the GDP deflator rises much more than does the consumer price index.
b. the consumer price index rises much more than does the GDP deflator.
c. the GDP deflator and the consumer price index rise by about the same amount.
d. the consumer price index rises slightly more than does the GDP deflator.
Most, but not all, baseballs used in the United States are imported from other nations. If
the price of baseballs increases,
a. the GDP deflator will increase less than will the consumer price index.
b. the GDP deflator will increase more than will the consumer price index.
c. the GDP deflator will not increase, but the consumer price index will increase.
d. the GDP deflator will increase, but the consumer price index will not increase.
Suppose that U.S. mining companies purchase German-made ore trucks at a reduced
price. What will be the effect on the GDP deflator and the consumer price index?
a. The consumer price index will fall, and the GDP deflator will fall.
b. The consumer price index and the GDP deflator will be unaffected.
c. The consumer price index will fall, and the GDP deflator will be unaffected.
d. The consumer price index will be unaffected, and the GDP deflator will fall.
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If the price of U.S.-made computers increases,

a. the consumer price index and the GDP deflator will both increase.
b. the consumer price index will increase, and the GDP deflator will be unaffected.
c. the consumer price index will be unaffected, and the GDP deflator will increase.
d. the consumer price index and the GDP deflator will both be unaffected.
The price of imported suitcases produced by a U.S. company operating in Thailand

increases. What effect will this change have on the GDP deflator and on the CPI?
a. The GDP deflator and the CPI will both increase.
b. The GDP deflator will increase and the CPI will be unaffected.
c. The GDP deflator and the CPI will both be unaffected.
d. The GDP deflator will be unaffected and the CPI will increase.
A Brazilian company produces shirts in the United States and exports all of them to
Lithuania. If the price of the shirts increases,
a. the GDP deflator and the CPI both increase.
b. the GDP deflator is unchanged and the CPI increases.
c. the GDP deflator increases and the CPI is unchanged.
d. the GDP deflator and the CPI are unchanged.
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A Japanese automobile company produces cars in the United States, some of which are
exported to other nations. If the price of the cars increases,
a. the GDP deflator and the CPI will both increase.
b. the GDP deflator will increase and the CPI will be unchanged.
c. the GDP deflator will be unchanged and the CPI will increase.
d. the GDP deflator and the CPI will both be unchanged.
The price of CD players increases dramatically, causing a 1 percent increase in the CPI.
The price increase will most likely cause the GDP deflator to increase by
a. more than 1 percent.
b. less than 1 percent.
c. 1 percent.
d. It is impossible to make an informed guess without more information.
The price of grains used primarily for animal consumption increases. This increase is most
likely to cause
a. the U.S. consumer price index to increase by more than the GDP deflator.
b. the U.S. consumer price index to increase by less than the GDP deflator.
c. the U.S. consumer price index and GDP deflator to increase by the same percentage.
d. no change in either the consumer price index or the GDP deflator.
In general, if a consumer good is produced domestically and consumed domestically, a

reduction in its price will have which of the following effects?
a. the consumer price index will decrease relatively more than will the GDP deflator.
b. the consumer price index and the GDP deflator will decrease by the same amount.
c. the consumer price index will decrease relatively less than will the GDP deflator.
d. one cannot generalize about the relative decrease in the two price indices.
If increases in the prices of U.S. automobiles cause the CPI to increase by 2 percent,
a. the GDP deflator will likely increase by more than 2 percent.
b. the GDP deflator will likely increase by 2 percent.
c. the GDP deflator will likely increase by less than 2 percent.
d. All of the above are equally likely.
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Which is the most accurate statement about the GDP deflator and the consumer price
index?
a. Both the GDP deflator and the consumer price index compare the price of a fixed
basket of goods and services to the price of the basket in the base year.
b. Both the GDP deflator and the consumer price index compare the price of currently
produced goods and services to the price of the same goods and services in the base
year.
c. The GDP deflator compares the price of a fixed basket of goods and services to the
price of the basket in the base year, but the consumer price index compares the price
of currently produced goods and services to the price of the same goods and services
in the base year.
d. The consumer price index compares the price of a fixed basket of goods and services
to the price of the basket in the base year, but the GDP deflator compares the price of
currently produced goods and services to the price of the same goods and services in
the base year.
The basket of goods in the consumer price index changes _____, and the basket of goods
in the GDP deflator changes _____.
a. yearly, yearly
b. occasionally, yearly
c. yearly, occasionally
d. occasionally, occasionally
Which of the following is the most accurate statement?

a. In the late 1970s, the late 1980s and early 1990s, the GDP deflator showed high rates of
inflation, but the consumer price index showed low rates of inflation.
b. In the late 1970s, both the GDP deflator and the consumer price index showed high
rates of inflation, and in the late 1980s and early 1990s, both measures showed low
inflation.
c. In the late 1970s, both the GDP deflator and the consumer price index showed low
rates of inflation, and in the late 1980s and early 1990s, both measures showed high
rates of inflation.
d. In the late 1970s, the late 1980s and early 1990s, both the GDP deflator and the
consumer price index showed high rates of inflation.
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What is the purpose of measuring the overall level of prices in the economy?
a. to allow the measurement of GDP
b. to allow comparison between dollar figures from different points in time
c. to allow government officials to determine whether the value of the dollar has
increased or decreased
d. to allow consumers to know what kinds of prices to expect in the future
The CPI and the GDP deflator

a. generally move together.
b. generally show different patterns of movement.
c. always show identical changes.
d. always show different patterns of movement.
a. generally move together.
Babe Ruth's 1931 salary was $80,000. The price index for 1931 is 15.2 and the price index
for 1999 is 166. Ruth's 1931 salary was equivalent to a 1999 salary of
a. about $87,000.
b. about $870,000.
c. about $1,870,000.
d. about $8,700,000.
In 1931, President Herbert Hoover was paid a salary of $75,000. The price index for 1931 is
15.2, and the price index for 1999 is 166.
a. President Hoover's salary equivalent in 1999 dollars is much smaller than that of the
current U.S. president.
b. President Hoover's salary equivalent in 1999 dollars is about the same as that of the
c. President Hoover's salary equivalent in 1999 dollars is much larger than that of the
d. One cannot make a meaningful comparison of 1999 salaries and 1931 salaries.
What is Wallys income in 2005 dollars?

a. $3,000
b. $30,000
c. $45,000
d. $130,000
91
92
93
94
95
What is Verns income in 1945 dollars?

a. $2,000
b. $3,000
c. $4,500
d. $30,000
What was the ratio of Verns real income to Wallys real income?
a. 10:1
b. 15:1
c. 1:1
d. 2:3
What is Ingrids 1972 salary in 2002 dollars?

a. $125,000
b. $50,000
c. $25,000
d. $10,000
What is Ingrids 2002 salary in 1972 dollars?

a. $20,000
b. $150,000
c. $10,000
d. $125,000
96
97
98
99
100
Between 1972 and 2002, the purchasing power of Ingrids salary has
a. increased.
b. decreased..
c. remained unchanged
d. it is impossible to tell from the information given
What is the ratio of the 2002 purchasing power of Ingrids salary to the 1972 purchasing
power of Ingrids salary?
a. 2:1
b. 2.5:1
c. 5:1
d. 1:2
Craig is offered an $80,000 per year job in Los Angeles, and a $60,000 per year job in
Bismark. The CPI for Los Angeles is 120 and the CPI for Bismark is 90. What is the Los
Angeles job's purchasing power in "Bismark dollars"?
a. $80,000
b. $107,000
c. $60,000
d. $72,000
If all Marie cares about is the purchasing power of her income, which job should she take?
a. the Austin job
b. the Boston job
c. either job
d. It is impossible to make a comparison of purchasing power with the information
given.
What is the purchasing power of the Boston salary in Austin dollars?

a. $40,000
b. $84,000
c. $50,000
d. $72,000
What is the purchasing power of the Austin salary in Boston dollars?

a. $40,000
b. $50,000
c. $60,000
d. $75,000
101
102
103
104
105
What is the ratio of the purchasing power of the Boston salary to the purchasing power of
the Austin salary?
a. 1:1
b. 4:5
c. 5:4
d. 5:6
In which job will the purchasing power of Dawna's income be higher?

a. Denver
b. Washington
c. eitherthey both have the same purchasing power
d. it is impossible to determine with the information given
What is the purchasing power of the Denver income in Washington, D.C. dollars?
a. $30,000
b. $27,000
c. $20,000
d. $15,000
What is the purchasing power of the Washington income in Denver dollars?

a. $40,000
b. $30,000
c. $27,000
d. $20,000
What is the ratio of the purchasing power of the Washington, D.C. income to the
purchasing power of the Denver income?
a. 2:1
b. 3:2
c. 1:1
d. 10:9
106
107
108
109
110
In which job will Bills income have the highest purchasing power?
a. Lincoln
b. Miami
c. eitherboth incomes have the same purchasing power
d. It is impossible to determine which income has the highest purchasing power.
What is the purchasing power of the Lincoln job in Miami dollars?

a. $45,000
b. $40,000
c. $30,000
d. $27,000
What is the purchasing power of the Miami job in Lincoln dollars?

a. $54,000
b. $50,000
c. $33,750
d. $30,000
What is the ratio of the purchasing power of the Miami salary to the purchasing power of
the Lincoln salary?
a. 9:8
b. 4:3
c. 3:2
d. 1:1
When box office receipts are corrected for inflation, the No. 1 movie of all time is
a. Titanic
b. Star Wars
c. ET
e. The Sound of Music
111
112
113
114
115
When some dollar amount is automatically corrected for inflation by law or contract, the
amount is said to be
a. indexed for inflation.
b. deflated.
c. corrected for inflation.
d. inflated.
Many long-term wage contracts between firms and unions are partially or completely
indexed with a provision called
a. a cost-of-living allowance.
b. a COLA.
c. an index allowance.
d. a, b and c
e. a and b
A COLA automatically raises the wage rate when

a. GDP increases.
b. the labor force increases.
c. the consumer price index increases.
d. taxes increase.
Which of the following are indexed for inflation?

a. the brackets of the federal income tax
b. Social Security benefits
c. state sales tax rates
d. a and b above
e. all of the above
Interest represents
a. a payment now for money to be transferred in the future.
b. a payment in the future for a transfer of money in the past.
c. a payment in the past for money transferred now.
d. all of the above
116
117
118
119
120
Which is the most accurate statement about the relationship between inflation and interest
rates?
a. There is no relationship between inflation and interest rates.
b. The interest rate is determined by the rate of inflation.
c. In order to fully understand inflation, we need to know how to correct for the effects
of interest rates.
d. In order to fully understand interest rates, we need to know how to correct for the
effects of inflation.
Colleen deposits $20,000 into a saving account at the first of the year. The saving account
pays 5% interest. There is inflation during the year. Which of the following is a correct
statement about Jane's savings at the end of the year?
a. Colleen will earn $1,000 interest by the end of the year.
b. When Colleen withdraws her interest and principal, she will have $21,000.
c. Colleen will be richer by $1,000 in real terms.
d. All of the above are correct statements.
e. a and b
The nominal interest rate is

a. the interest rate paid or charged by a bank.
b. the interest rate as usually reported without a correction for the effects of inflation.
c. a low interest rate.
d. all of the above
e. a and b above
The real interest rate is

a. the interest rate paid or charged by a bank.
b. the interest rate corrected for the rate of inflation.
c. a high interest rate.
d. all of the above.
121
122
123
124
Which of the following is the most accurate statement about the relationship between the
nominal interest rate and the real interest rate?
a. The real interest rate is the nominal interest rate times the rate of inflation.
b. The real interest rate is the nominal interest rate minus the rate of inflation.
c. The real interest rate is the nominal interest rate plus the rate of inflation.
d. The real interest rate is the nominal interest rate divided by the rate of inflation.
e. None of the above are accurate statements.
If the nominal interest rate is 8% and rate of inflation is 3%, the real interest rate is
a. 11%.
b. 24%.
c. 5%.
d. 3.75%.
If the nominal interest rate is 5% and the rate of inflation is 10%, the real interest rate is
a. 5%.
b. 50%.
c. 15%
d. 5%.
The nominal interest rate tells you

a. how fast the number of dollars in your bank account rises over time.
b. how fast the purchasing power of your bank account rises over time.
c. the number of dollars in your bank account.
d. the purchasing power in your bank account.
The real interest rate tells you

a. how fast the number of dollars in your bank account rises over time.
b. how fast the purchasing power of your bank account rises over time.
c. the number of dollars in your bank account.
d. the purchasing power of your bank account.
125
126
127
128
129
Which of the following is the most accurate statement about nominal and real interest
rates?
a. Nominal and real interest rates always move together.
b. Nominal and real interest rates never move together.
c. Nominal and real interest rates often do not move together.
d. Nominal and real interest rates are identical.
At the end of the year, Arlenes $1,000 deposit has earned

a. $1050.
b. $50.
c. $100.
d. $50.
At the end of the year, the purchasing power of Arlenes $1000 deposit has changed by
a. $1050.
b. $50.
c. $100.
d. $50.
Which is the most correct statement about the relationship between the change in the
number of dollars in Arlenes saving account and the change in the purchasing power of
Arlenes saving account?
a. The purchasing power of Arlenes account has increased more than the number of
dollars in the account.
b. The number of dollars in Arlenes account has increased more than the purchasing
power of the account.
c. The purchasing power of Arlene's account and the number of dollars in the account
have changed by the same amount.
d. None of the above are correct statements.
130
131
132
133
Which of the following is the most accurate statement about real and nominal interest
rates?
a. Real interest rates can be either positive or negative, but nominal interest rates must
be positive.
b. Real interest rates and nominal interest rates must be positive.
c. Real interest rates must be positive, but nominal interest rates can be either positive or
negative.
d. Real interest rates and nominal interest rates can be either positive or negative.
What is the real interest rate Dick pays on his mortgage in 1973?
a. 4 percent
b. 3 percent
c. 7 percent
d. 10 percent
a. 0 percent
b. 7 percent
c. 7 percent
d. 14 percent
a. 14 percent
b. 7 percent
c. 7 percent
d. 21 percent
What happens to the real interest rate that Dick pays between 1973 and 1975?
a. it increases.
b. it decreases
c. it remains unchanged
d. it decreases, then increases
134
135
136
137
138
In the late 1970s, nominal interest rates were high and inflation rates were very high. As a
result, real interest rates were
a. very high.
b. low, and in some years they were negative.
c. moderately high.
d. impossible to determine.
In the late 1990s, nominal interest rates were low and inflation was very low. As a result,
a. real interest rates were very low.
b. real interest rates were relatively low.
c. real interest rates were relatively high.
d. real interest rates were impossible to determine.
139
140
ANSWERS
~ANSWER:
d.
we cannot determine whether baseball stars today enjoy a higher standard of living than Babe
Ruth did in 1931 without additional information regarding increases in prices since 1931.
~ANSWER:
c.
the consumer price index.
~ANSWER:
a.
has to spend more dollars to maintain the same standard of living..
4 ANSWER:
b.
monitor changes in the cost of living.
~ANSWER:
d.
the overall level of prices in the economy is increasing.
~ANSWER:
b.
inflation.
~ANSWER:
c.
the percentage change in the price level from the previous period.
~ANSWER:
d.
Answers a and b are both correct.
~ANSWER:
a.
the overall cost of goods and services bought by a typical consumer.
TYPE: M SECTION: 1 OBJECTIVE: 1 RANDOM: Y
10
~ANSWER:
c.
the Bureau of Labor Statistics
11
~ANSWER:
b.
monthly.
12
~ANSWER:
c.
the goods and services typically bought by consumers, according to Bureau of Labor Statistics
surveys.
13
~ANSWER:
c.
all goods and services that typical consumers buy.
14
~ANSWER:
d.
how much consumers buy of each item.
15
~ANSWER:
b.
A survey is conducted to determine how much of each good and service typical consumers
purchase.
16
~ANSWER:
a.
fix the basket, find the prices, compute the baskets cost, choose a base year and compute the
index, compute the inflation rate.
17
~ANSWER:
a.
the benchmark against which other years are compared.
18
~ANSWER:
d.
the price of the basket of goods and services in the given year divided by the price of the basket
in the base year, then multiplied by 100.
19
~ANSWER:
c.
housing
20
~ANSWER:
b.
housing, transportation, food and beverages, and medical care.
21
~ANSWER:
b.
16 percent
22
~ANSWER:
b.
apparel
23
~ANSWER:
b.
40, 16, 17
24
~ANSWER:
d.
about 8 percent.
25
~ANSWER:
a.
about 3 percent.
26
~ANSWER:
b.
about 10 percent.
27
~ANSWER:
c.
inflation.
28
~ANSWER:
c.
determining the percentage increase in the price index from the preceding period.
29
~ANSWER:
d.
5 percent.
30
~ANSWER:
d.
the economy experienced 11 percent inflation between the first and second years and 5 percent
deflation between the second and third years.
31
~ANSWER:
a.
5 percent.
32
~ANSWER:
b.
10 percent between the first and second year, 11 percent between the second and third year
33
~ANSWER:
a.
20 percent between the first and second year, 33 percent between the second and third year
34
~ANSWER:
d.
All changes show the same rate of inflation.
35
~ANSWER:
b.
100 to 125
36
~ANSWER:
a.
150 to 120
37
~ANSWER:
b.
100 to 120
38
~ANSWER:
b.
thousands
39
~ANSWER:
b.
the cost of a basket of goods and services bought by firms.
40
~ANSWER:
d.
changes in the consumer price index.
41
~ANSWER:
d.
the consumer price index will increase in the future.
42
~ANSWER:
b.
to measure changes in the cost of living.
43
~ANSWER:
a.
The CPI is not a perfect measure of the cost of living.
44
~ANSWER:
d.
is not a perfect measure of the cost of living.
45
~ANSWER:
d.
unmeasured price change
46
~ANSWER:
b.
the fact that consumers substitute toward goods that have become relatively less expensive.
47
~ANSWER:
d.
they do not all change proportionately.
48
~ANSWER:
a.
buying less of goods whose prices have risen by relatively large amounts.
49
~ANSWER:
d.
Both b and c are correct.
50
~ANSWER:
a.
overstate the increase in the cost of living from one year to the next.
51
~ANSWER:
b.
overstates
52
~ANSWER:
a.
worth more
53 ANSWER:
d.
when a new good is introduced, it gives consumers greater choice, thus reducing the amount
they must spend to maintain their standard of living.
54
~ANSWER:
d.
a and c
55
~ANSWER:
a.
Even though the BLS adjusts prices of products in the CPI basket when the quality of the
products change, changes in quality are still a problem, because quality is so hard to measure.
56
~ANSWER:
b.
introduction of new goods
57
~ANSWER:
b.
substitution bias
58
~ANSWER:
b.
unmeasured quality change
59
~ANSWER:
a.
substitution bias
60
~ANSWER:
d.
a and b
61
~ANSWER:
e. b and c
62
~ANSWER:
a.
substitution bias
63
~ANSWER:
a.
substitution bias
TYPE: M: SECTION: 1 OBJECTIVE: 2 RANDOM: Y
64 ANSWER:
b.
introduction of new goods
65
~ANSWER:
d.
There is still debate among economists on the severity of the CPI bias and what to do about it.
66
~ANSWER:
a.
overstates inflation by about 1 percentage point per year.
67
~ANSWER:
b.
reduced the upward bias in the CPI.
68
~ANSWER:
a.
understates the true rate of inflation for the elderly.
69
~ANSWER:
b.
many government programs use the CPI to adjust for changes in the overall level of prices.
70
~ANSWER:
c.
reduced by billions of dollars each year.
71
~ANSWER:
d.
the current level of prices relative to the level of prices in the base year.
72
~ANSWER:
b.
the GDP deflator reflects the prices of all goods and services produced domestically, whereas
the consumer price index reflects the prices of goods and services bought by consumers.
73
~ANSWER:
d.
the consumer price index will increase, but the GDP deflator will not increase.
74
~ANSWER:
c.
the GDP deflator but not in the consumer price index.
75
~ANSWER:
d.
remain unchanged, remain unchanged
76
~ANSWER:
a.
both the GDP deflator and the consumer price index.
77
~ANSWER:
b.
the consumer price index rises much more than does the GDP deflator.
78
~ANSWER:
a.
the GDP deflator will increase less than will the consumer price index.
79
~ANSWER:
b.
The consumer price index and the GDP deflator will be unaffected.
80
~ANSWER:
a.
the consumer price index and the GDP deflator will both increase.
81
~ANSWER:
d.
the GDP deflator will be unaffected and the CPI will increase
82
~ANSWER:
c.
the GDP deflator increases and the CPI is unchanged.
83
~ANSWER:
a.
the GDP deflator and the CPI will both increase.
84
~ANSWER:
b.
less than 1 percent.
85 ANSWER:
b.
the U.S. consumer price index to increase by less than the GDP deflator.
86
~ANSWER:
a.
the consumer price index will decrease relatively more than will the GDP deflator.
87
~ANSWER:
c.
the GDP deflator will likely increase by less than 2 percent.
88
~ANSWER:
d.
The consumer price index compares the price of a fixed basket of goods and services to the
price of the basket in the base year, but the GDP deflator compares the price of currently produced
goods and services to the price of the same goods and services in the base year.
89
~ANSWER:
b.
occasionally, yearly
90
~ANSWER:
b.
In the late 1970s, both the GDP deflator and the consumer price index show high rates of
inflation, and in the late 1980s and early 1990s, both measures show low inflation.
91
~ANSWER:
b.
to allow comparison between dollar figures from different points in time.
92
~ANSWER:
a.
generally move together.
93
~ANSWER:
b.
about $870,000.
94
~ANSWER:
c.
President Hoover's salary equivalent in 1999 dollars is much larger than that of the current U.S.
president..
95
~ANSWER:
c.
$45,000
TYPE: M SECTION: 2 OBJECTIVE: 4 RANDOM: N
96
~ANSWER:
a.
$2,000
97
~ANSWER:
d.
2:3
98
~ANSWER:
c.
$25,000
99
~ANSWER:
a.
$20,000
100
~ANSWER:
a.
increased
101
~ANSWER:
a.
2:1
102
~ANSWER:
c.
$60,000
103
~ANSWER:
a.
the Austin job
104
~ANSWER:
a.
$40,000
105
~ANSWER:
d.
$75,000
106
~ANSWER:
b.
4:5
107
~ANSWER:
c.
eitherthey both have the same purchasing power
108
~ANSWER:
a.
$30,000
109
~ANSWER:
d.
$20,000
110
~ANSWER:
c.
1:1
111
~ANSWER:
b.
Miami
112
~ANSWER:
b.
$40,000
113
~ANSWER:
c.
$33,750
114
~ANSWER:
a.
9:8
115
~ANSWER:
d.
Gone With the Wind
116
~ANSWER:
a.
indexed for inflation.
117
~ANSWER:
e. a and b
118
~ANSWER:
c.
the consumer price index increases.
119
~ANSWER:
d.
a and b above
120
~ANSWER:
b.
a payment in the future for a transfer of money in the past.
121
~ANSWER:
d.
In order to understand interest rates, we need to know how to correct for inflation.
122
~ANSWER:
e. a and b
123
~ANSWER:
e. a and b above
124
~ANSWER:
b.
the interest rate corrected for the rate of inflation.
125
~ANSWER:
b.
The real interest rate is the nominal interest rate minus the rate of inflation.
126
~ANSWER:
c.
5%.
127
~ANSWER:
d.
-5%.
128
~ANSWER:
a.
how fast the number of dollars in your bank account rises over time.
129
~ANSWER:
b.
how fast the purchasing power of your bank account rises over time.
130
~ANSWER:
c.
Nominal and real interest rates often do not move together.
131
~ANSWER:
b.
$50.
132
~ANSWER:
d.
$-50.
133
~ANSWER:
b.
The number of dollars in Arlenes account has increased more than the purchasing power of the
account.
134
~ANSWER:
a.
Real interest rates can be either positive or negative, but nominal interest rates must be positive.
135
~ANSWER:
a.
4 percent
136
~ANSWER:
a.
0 percent
137
~ANSWER:
c.
-7 percent
138
~ANSWER:
b.
it decreases
139
~ANSWER:
b.
low, and in some years they were negative.
140
~ANSWER:
c.
real interest rates were relatively high.

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Measuring the Cost of Living

When the consumer price index rises, the typical family

. The consumer price index is used to

The term inflation is used to describe a situation in which

The inflation rate is defined as

The inflation rate is

The CPI is a measure of

The CPI is calculated by which of the following agencies?

The CPI is calculated

What is the basket of goods used to construct the CPI?

In the CPI, goods and services are weighted according to

In the CPI, the base year is

For any given year, the CPI is

Categories of U.S. consumer spending, ranked from largest to smallest are:

If the cost of housing increases by 20 percent, the CPI is likely to increase by

The inflation rate is calculated by

The producer price index measures

The goal of the consumer price index is

The consumer price index

The substitution bias in the consumer price index refers to

When prices change from year to year,

Unmeasured quality change is a problem in the CPI because

. Solar-powered lawnmowers are invented as an alternative to existing kinds of lawnmowers.

Most studies conclude that the consumer price index

Recent changes in the CPI have

The Bureau of Labor Statistics has evidence that the CPI

The GDP deflator reflects

An increase in the price of domestically produced industrial robots will be reflected in

An increase in the price of soft drinks produced domestically will be reflected in

In the United States, if the price of imported oil rises,

If the price of U.S.-made computers increases,

The price of imported suitcases produced by a U.S. company operating in Thailand

In general, if a consumer good is produced domestically and consumed domestically, a

Which of the following is the most accurate statement?

The CPI and the GDP deflator

What is Wallys income in 2005 dollars?

What is Verns income in 1945 dollars?

What is Ingrids 1972 salary in 2002 dollars?

What is Ingrids 2002 salary in 1972 dollars?

What is the purchasing power of the Boston salary in Austin dollars?

What is the purchasing power of the Austin salary in Boston dollars?

In which job will the purchasing power of Dawna's income be higher?

What is the purchasing power of the Washington income in Denver dollars?

What is the purchasing power of the Lincoln job in Miami dollars?

What is the purchasing power of the Miami job in Lincoln dollars?

A COLA automatically raises the wage rate when

Which of the following are indexed for inflation?

The nominal interest rate is

The real interest rate is

The nominal interest rate tells you

The real interest rate tells you

At the end of the year, Arlenes $1,000 deposit has earned

the consumer price index.

TYPE: M SECTION: INT OBJECTIVE: RANDOM: Y

has to spend more dollars to maintain the same standard of living..

TYPE: M SECTION: INT OBJECTIVE: RANDOM: Y

the overall level of prices in the economy is increasing.

TYPE: M SECTION: INT OBJECTIVE: RANDOM: Y

TYPE: M SECTION: INT OBJECTIVE: RANDOM: Y

TYPE: M SECTION: INT OBJECTIVE: RANDOM: Y

Answers a and b are both correct.

TYPE: M SECTION: INT OBJECTIVE: RANDOM: Y

the overall cost of goods and services bought by a typical consumer.