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Economics

Economics. Chapter 2 General Price Level. General Price Level. General price level Weighted average of prices of all goods and services. Shown by different price indexes Price index A figure showing the price level of the same basket of goods and services. Base period vs. specific period

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Economics

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  1. Economics Chapter 2 General Price Level

  2. General Price Level • General price level • Weighted average of prices of all goods and services. • Shown by different price indexes • Price index • A figure showing the price level of the same basket of goods and services. • Base period vs. specific period • At base year, always set at 100

  3. Consumer Price Index (CPI) • Price level of goods and services generally consumed by household.

  4. Consumer Price Index (CPI) • HK Statistics: Base year = 2004-2005

  5. Calculate CPI

  6. Example

  7. The implicit price deflator of GDP • Simply: GDP deflator • Measure the price change of all types of goods included in GDP. • Formula:

  8. The implicit price deflator of GDP

  9. Coverage • CPI • Products consumed by household • Fixed basket of goods and services. (Same for diff. yrs) • Imports , Exports  • Capital goods  • GDP deflator • All products produced by an economy • Counting all GDP components: C + I + G + X - M. • Exports , imports  • Capital goods (I) 

  10. CPI vs. GDP deflator • Aim at • CPI • Change in the cost of living • Amount spent on basic living expenses • GDP deflator • Purchasing power of money • Amount of goods that can be bought with a unit of money

  11. Inflation • Definition:The persistent increase in the general price level. • Shown by CPI  continuously. • Hong Kong Statistics: Inflation rate =

  12. Deflation • Definition: • The persistent decrease in the general price level. • Inflation rate is negative

  13. Inflation • Given the CPIs of Economy A • Find the inflation rate in 2009. • Find the inflation rate in 2010.

  14. CPI vs. GDP deflator • Aim at • CPI • Change in the cost of living • Amount spent on basic living expenses • GDP deflator • Purchasing power of money • Amount of goods that can be bought with money

  15. Purchasing power • In 2009 • A hamburger = $10 • i.e. You can buy a hamburger if you got a $10 note • In 2010 • A hamburger = $12 • i.e. You can’t buy a hamburger with a $10 note • The purchasing power of the $10 note is lowered • Nowadays, the 10 cents coins have very little purchasing power

  16. CPI - Overestimation Substitution bias: CPI  Basket (Good A) If Price of Good A  Choose Good B (substitute) Although CPI (Good A), people are not fully affected Same living standard CPI overestimate the increase in price level

  17. CPI - Overestimation • Quality improvement: • Products with high technology (e.g. new mobile phone) • Buy same amount (same expense)  better enjoy or • Buy the same old model (less expense)  same enjoy • CPI can’t reflect the change in enjoyment

  18. Which price index is better? (Textbook p.60-61) a. Calculate the inflation rates of 2004 and 2005. Inflation rate =

  19. b. Describe the changes in inflation rates and cost of living with reference to the GDP deflator and Composite CPI. Base on GDP deflator: a ______ inflation rate in 2004 suggests a ________ in the cost of living. a ______ inflation rate in 2005 showing that the cost of living__________________. Base of Composite CPI: a ______ inflation rate in 2004 suggests a ________ in the cost of living. a ______ inflation rate in 2005 suggests a ________ in the cost of living. Which price index is better? (Textbook p.60-61) negative decrease zero remains unchanged negative decrease positve increase

  20. c. Which index is a better indicator of inflation? Which index is a better indicator of the cost of living? Inflation refers to ___________________________________________ As the ______________ measure price changes of a large scope of goods, it is better indicator of inflation Cost of living refers to ___________________________________________ It is affected by price change in _________ goods only. Therefore, ________ , which includes only _________ goods, is a better indicator of the cost of living. Which price index is better? (Textbook p.60-61) A persistent increase in the general price level GDP deflator amount spent on basic living expenses consumer consumer CPI

  21. Which index is better? • GDP deflator • Prices change of a large scope of goods • Better for measuring inflation • CPI • Price change of consumer goods • Better for indicating living standard

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