4.3.1 Measurement of Inflation

• What is inflation defined as in economics?

  General increase in prices
• Inflation leads to a reduction in the purchasing power of money
• If the inflation rate is 5%, a loaf of bread costing £1 today will cost £1.05 a year later.

  True
• The Consumer Price Index tracks the average change in prices paid by urban consumers
• What is the formula for calculating the CPI?

  $CPI =$$\frac{Current\,Year\,Basket\,Price}{Base\,Year\,Basket\,Price} \times 100$
• What is the primary purpose of the CPI in assessing the economy?

  Measure the cost of living
• What is the first step in calculating the CPI?

  Identify a representative basket
• Match the inflation measure with its focus:

  CPI ↔️ Consumer inflation

  PPI ↔️ Producer inflation
• The PPI tracks changes in prices received by domestic producers for their output.


  True
• Inflation reduces the purchasing power of money.
• What is the first step in calculating the CPI?

  Select basket
• If the base year basket cost £100 and the current year basket costs £110, what is the CPI?

  110
• The CPI measures inflation by tracking changes in prices paid by urban consumers.
• What is the new product bias in CPI?

  Slow to incorporate new products
• Rank the biases of the CPI from most to least impactful:

  1️⃣ Substitution Bias

  2️⃣ Quality Changes

  3️⃣ New Product Bias

  4️⃣ Outlet Substitution Bias
• What does the Consumer Price Index (CPI) measure?

  Average change in prices
• Steps in calculating the Consumer Price Index (CPI)

  1️⃣ Identify a representative basket of goods and services

  2️⃣ Assign weights to each item in the basket

  3️⃣ Collect price data for the base year and current year

  4️⃣ Calculate the index value using the formula
• If the base year basket costs £100 and the current year basket costs £110, the CPI is 110
• The CPI formula calculates inflation by comparing current year prices to base year prices.


  True
• Weights are assigned to each item in the CPI basket based on its proportion of total consumer expenditure
• What is the key difference between CPI and PPI?

  CPI measures consumer prices
• What is the primary focus of the CPI in measuring inflation?

  Consumer prices
• The CPI measures inflation by tracking changes in prices paid by urban consumers for a basket of goods and services.


  True
• Steps to calculate the CPI

  1️⃣ Identify a range of goods and services representative of consumer spending.

  2️⃣ Assign weights to each item based on consumer spending.

  3️⃣ Gather prices for each item in the base year and current year.

  4️⃣ Use the formula CPI = (Current Year Basket Price / Base Year Basket Price) x 100.
• The PPI measures producer inflation by tracking changes in prices received by domestic producers for their output.

  True
• Match the CPI limitation with its description:

  Basket Composition ↔️ May not reflect all consumers' spending patterns

  Weighting Biases ↔️ Weights may not reflect true importance

  Substitution Bias ↔️ Consumers shift to cheaper alternatives
• The new product bias in CPI refers to the delay in incorporating new products and services.