© 2009 South-Western, a part of Cengage Learning, all rights reserved C H A P T E R Measuring the Cost of Living 생계비의 측정 E conomics P R I N C I P L E S.

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1 © 2009 South-Western, a part of Cengage Learning, all rights reserved C H A P T E R Measuring the Cost of Living 생계비의 측정 E conomics P R I N C I P L E S O F N. Gregory Mankiw Premium PowerPoint Slides by Ron Cronovich 24

2 In this chapter, look for the answers to these questions:  What is the Consumer Price Index (CPI)? How is it calculated? What’s it used for? CPI 는 어디에 사용되는가 ?  What are the problems with the CPI? How serious are they?  How does the CPI differ from the GDP deflator?  CPI 와 GDP 디플레이터는 뭐가 다른가 ?  How can we use the CPI to compare dollar amounts from different years? Why would we want to do this, anyway?  서로 다른 해의 금액 ( 화폐가치 ) 을 비교하기 위해서 CPI 를 어떻게 사용할 수 있나 ? 어쨌든 왜 이런 일들을 하는가 ?  How can we correct interest rates for inflation?  이자율에서 인플레이션 ( 효과 ) 을 어떻게 조정할 수 있는가 ? 1

3 MEASURING THE COST OF LIVING 2 The Consumer Price Index (CPI)  measures the typical consumer’s cost of living  대표적인 소비자의 생계비를 측정한다  the basis of cost of living adjustments (COLAs) in many contracts and in Social Security  사회보장급여 ( 국민연금 ) 나 ( 장기급여 ) 계약에 있어서 생계비조정의 근거가 된다

4 MEASURING THE COST OF LIVING 3 How the CPI Is Calculated 1.Fix the “basket.” 재화묶음 확정 The Bureau of Labor Statistics (BLS) surveys consumers to determine what’s in the typical consumer’s “shopping basket.” 2.BLS 는 대표적인 소비자의 구매품 묶음이 무엇인지 파악하기 위해 소비자들을 조사한다 3.Find the prices. 가격 조사 The BLS collects data on the prices of all the goods in the basket. 4. BLS 는 재화묶음에 있는 모든 재화와 서비스의 가격을 조사한다 5.Compute the basket’s cost. 재화묶음의 비용 계산 Use the prices to compute the total cost of the basket. 6. 조사된 가격을 이용하여 재화묶음의 전체 비용을 계산한다

5 MEASURING THE COST OF LIVING 4 How the CPI Is Calculated 4.Choose a base year and compute the index. 기준연도를 정하고 물가지수를 계산 The CPI in any year equals ( 기준연도를 어느 해로 하든지 구해진 CPI 는 같다 5.Compute the inflation rate. The percentage change in the CPI from the preceding period. 인플레이션율 (=CPI 의 전년도 대비 상승률 ) 을 계산 100 x cost of basket in current year cost of basket in base year CPI this year – CPI last year CPI last year Inflation rate x 100% =

6 MEASURING THE COST OF LIVING 5 EXAMPLE basket: {4 pizzas, 10 lattes} $12 x 4 + $3 x 10 = $78 $11 x 4 + $2.5 x 10 = $69 $10 x 4 + $2 x 10 = $60 cost of basket $3.00 $2.50 $2.00 price of latte $122009 $112008 $102007 price of pizza year Compute CPI in each year 2007: 100 x ($60/$60) = 100 2008: 100 x ($69/$60) = 115 2009: 100 x ($78/$60) = 130 Inflation rate: 15% 115 – 100 100 x 100% = 13% 130 – 115 115 x 100% = using 2007 base year:

7 A C T I V E L E A R N I N G 1 Calculate the CPI 6 CPI basket: {10 lbs beef, 20 lbs chicken} The CPI basket cost $120 in 2004, the base year. A. Compute the CPI in 2005. B. What was the CPI inflation rate from 2005-2006? price of beef price of chicken 2004$4 2005$5 2006$9$6

8 A C T I V E L E A R N I N G 1 Answers 7 A. Compute the CPI in 2005: Cost of CPI basket in 2005 = ($5 x 10) + ($5 x 20) = $150 CPI in 2005 = 100 x ($150/$120) = 125 CPI basket: {10 lbs beef, 20 lbs chicken} The CPI basket cost $120 in 2004, the base year. price of beef price of chicken 2004$4 2005$5 2006$9$6

9 A C T I V E L E A R N I N G 1 Answers 8 price of beef price of chicken 2004$4 2005$5 2006$9$6 CPI basket: {10 lbs beef, 20 lbs chicken} The CPI basket cost $120 in 2004, the base year. B. What was the inflation rate from 2005-2006? Cost of CPI basket in 2006 = ($9 x 10) + ($6 x 20) = $210 CPI in 2006 = 100 x ($210/$120) = 175 CPI inflation rate = (175 – 125)/125 = 40%

10 MEASURING THE COST OF LIVING 9 What’s in the CPI’s Basket?

11 CPI basket: {10# beef, 20# chicken} 2004-5: Households bought CPI basket. 2006: Households bought {5 lbs beef, 25 lbs chicken}. A C T I V E L E A R N I N G 2 Substitution bias 10 beefchicken cost of CPI basket 2004$4 $120 2005$5 $150 2006$9$6$210 A. Compute cost of the 2006 household basket. B. Compute % increase in cost of household basket over 2005-6, compare to CPI inflation rate.

12 A C T I V E L E A R N I N G 2 Answers 11 A. Compute cost of the 2006 household basket. ($9 x 5) + ($6 x 25) = $195 CPI basket: {10# beef, 20# chicken} Household basket in 2006: {5# beef, 25# chicken} beefchicken cost of CPI basket 2004$4 $120 2005$5 $150 2006$9$6$210

13 A C T I V E L E A R N I N G 2 Answers 12 B. Compute % increase in cost of household basket over 2005-6, compare to CPI inflation rate. Rate of increase: ($195 – $150)/$150 = 30% CPI inflation rate from previous problem = 40% CPI basket: {10# beef, 20# chicken} Household basket in 2006: {5# beef, 25# chicken} beefchicken cost of CPI basket 2004$4 $120 2005$5 $150 2006$9$6$210

14 MEASURING THE COST OF LIVING 13 Problems with the CPI: Substitution Bias 대체효과에 따른 왜곡  Over time, some prices rise faster than others.  시간이 감에 따라 어떤 물건의 가격은 다른 물건보다 빠르게 오른다  Consumers substitute toward goods that become relatively cheaper.  소비자들은 상대적으로 싸진 ( 덜 오른 ) 재화의 소비로 대체한다  The CPI misses this substitution because it uses a fixed basket of goods.  CPI 는 고정된 재화묶음을 사용하기 때문에 이러한 대체 ( 소비 ) 를 놓친다 ( 반영하지 못한다 )  Thus, the CPI overstates increases in the cost of living.  그러므로, CPI 는 생계비 상승을 과대평가 ( 과장 ) 하게 된다

15 MEASURING THE COST OF LIVING 14 Problems with the CPI: Introduction of New Goods 신상품 등장  The introduction of new goods increases variety, allows consumers to find products that more closely meet their needs.  신상품이 나오면 소비자들의 선택의 폭은 다양해지고, 소비자들의 필요에 더욱 근접하는 제품을 고를 수 있게 해 준다.  In effect, dollars become more valuable.  사실상, 화폐가 더욱 가치 있게 되는 것이다.  The CPI misses this effect because it uses a fixed basket of goods.  CPI 는 고정된 재화묶음을 사용하기 때문에 이러한 ( 화폐가치 증가 ) 효과를 반영하지 못한다  Thus, the CPI overstates increases in the cost of living.  그러므로, CPI 는 생계비 상승을 과대평가 ( 과장 ) 하게 된다

16 MEASURING THE COST OF LIVING 15 Problems with the CPI: Unmeasured Quality Change 측정되지 않은 품질변화  Improvements in the quality of goods in the basket increase the value of each dollar.  재화묶음에 포함된 재화의 품질이 개선되면 화폐의 가치 ( 구매력 ) 는 상승한다  The BLS tries to account for quality changes but probably misses some, as quality is hard to measure.  품질변화를 반영하려고 애를 쓰고는 있지만, 이를 측정하기가 어렵기 때문에 놓치는 경우가 있다  Thus, the CPI overstates increases in the cost of living.

17 MEASURING THE COST OF LIVING 16 Problems with the CPI  Each of these problems causes the CPI to overstate cost of living increases.  이런 문제들은 CPI 가 생계비를 과대평가하게 만든다  The BLS has made technical adjustments, but the CPI probably still overstates inflation by about 0.5 percent per year.  기술적인 조정을 하긴 하지만, 여전히 CPI 는 1 년에 인플레이션율을 0.5% 정도 과대평가한다  This is important because Social Security payments and many contracts have COLAs tied to the CPI.  이 점은 중요한데, 왜냐면 사회보장 급여 ( 국민연금 ) 나 ( 장기급여 ) 계약들은 CPI 에 연동해서 생계비조정이 되기 때문이다

18 MEASURING THE COST OF LIVING 17 Two Measures of Inflation, 1950-2007

19 MEASURING THE COST OF LIVING 18 Imported consumer goods( 수입 소비재 ):  included in CPI (CPI 에는 포함 )  excluded from GDP deflator (GDP 디플레이터에는 제외됨 ) Imported consumer goods( 수입 소비재 ):  included in CPI (CPI 에는 포함 )  excluded from GDP deflator (GDP 디플레이터에는 제외됨 ) The basket:  CPI uses fixed basket  CPI 는 ( 통상 5 년 동안 ) 고정된 재화묶음 사용  GDP deflator uses basket of currently produced goods & services  GDP 디플레이터는 매년 그해 생산된 모든 재화와 서비스 묶음을 사용 This matters if different prices are changing by different amounts. 여러 재화의 가격이 서로 다른 변동폭으로 변한다면 이것은 문제가 된다 The basket:  CPI uses fixed basket  CPI 는 ( 통상 5 년 동안 ) 고정된 재화묶음 사용  GDP deflator uses basket of currently produced goods & services  GDP 디플레이터는 매년 그해 생산된 모든 재화와 서비스 묶음을 사용 This matters if different prices are changing by different amounts. 여러 재화의 가격이 서로 다른 변동폭으로 변한다면 이것은 문제가 된다 Capital goods ( 자본재 ):  excluded from CPI  included in GDP deflator (if produced domestically) Capital goods ( 자본재 ):  excluded from CPI  included in GDP deflator (if produced domestically) Contrasting the CPI and GDP Deflator

20 In each scenario, determine the effects on the CPI and the GDP deflator. A. Starbucks raises the price of Frappuccinos. B. Caterpillar raises the price of the industrial tractors it manufactures at its Illinois factory. C. Armani raises the price of the Italian jeans it sells in the U.S. A C T I V E L E A R N I N G 3 CPI vs. GDP deflator 19

21 A. Starbucks raises the price of Frappuccinos. The CPI and GDP deflator both rise. B. Caterpillar raises the price of the industrial tractors it manufactures at its Illinois factory. The GDP deflator rises, the CPI does not. C. Armani raises the price of the Italian jeans it sells in the U.S. The CPI rises, the GDP deflator does not. A C T I V E L E A R N I N G 3 Answers 20

22 MEASURING THE COST OF LIVING 21 Correcting Variables for Inflation ( 인플레이션 효과 조정 ): Comparing Dollar Figures from Different Times 서로 다른 시점의 금액 비교  Inflation makes it harder to compare dollar amounts from different times. 인플레는 서로 다른 시점의 달러 금액을 비교하기 어렵게 만듬  Example: the minimum wage  $1.15 in Dec 1964  $5.85 in Dec 2007  Did min wage have more purchasing power in Dec 1964 or Dec 2007?  2007 년보다 1964 년의 화폐 ( 최저임금 ) 구매력이 더 클까 ?  To compare, use CPI to convert 1964 figure into “today’s dollars”…  비교하려면, CPI 를 사용해서 1964 년의 $1.15 를 현재시점의 $ 로 환산해야 한다

23 MEASURING THE COST OF LIVING 22  In our example,  year T = 12/1964, “today” = 12/2007  Min wage = $1.15 in year T  CPI = 31.3 in year T, CPI = 211.7 today Correcting Variables for Inflation: Comparing Dollar Figures from Different Times Amount in today’s dollars Amount in year T dollars Price level today Price level in year T = x $7.78 $1.15 211.7 31.3 = x The minimum wage in 1964 was $7.78 in today’s (2007) dollars.

24 MEASURING THE COST OF LIVING 23 Correcting Variables for Inflation: Comparing Dollar Figures from Different Times  Researchers, business analysts and policymakers often use this technique to convert a time series of current-dollar (nominal) figures into constant-dollar (real) figures.  연구자, 정책입안자들은 종종 이 방법을 사용하여 현재시점 기준의 명목금액을 고정된 시점 기준의 실질금액으로 환산한다  They can then see how a variable has changed over time after correcting for inflation.  그렇게 하면인플레 효과가 조정된 변수가 시간에 따라 어떻게 변해왔는지 볼 수 있게 된다  Example: the minimum wage, from Jan 1950 to Dec 2007…

25 The U.S. Minimum Wage in Current Dollars and Today’s Dollars, 1950-2007 $ per hour $0 $1 $2 $3 $4 $5 $6 $7 $8 $9 195019551960196519701975198019851990199520002005 current dollars 2007 dollars

26 Annual tuition and fees, average of all public four- year colleges & universities in the U.S.  1986-87: $1,414 (1986 CPI = 109.6)  2006-07: $5,834 (2006 CPI = 203.8) After adjusting for inflation, did students pay more for college in 1986 or in 2006? Convert the 1986 figure to 2006 dollars and compare. A C T I V E L E A R N I N G 4 Converting to “today’s dollars” 25

27 A C T I V E L E A R N I N G 4 Answers 26 Solution Convert 1986 figure into “today’s dollars” $1,414 x (203.8/109.6) = $2,629 Even after correcting for inflation, tuition and fees were much lower in 1986 than in 2006! Annual tuition and fees, average of all public four- year colleges & universities in the U.S.  1986-87: $1,414 (1986 CPI = 109.6)  2006-07: $5,834 (2006 CPI = 203.8)

28 MEASURING THE COST OF LIVING 27 Correcting Variables for Inflation: Indexation 물가연동제 For example, the increase in the CPI automatically determines  the COLA in many multi-year labor contracts  the adjustments in Social Security payments and federal income tax brackets A dollar amount is indexed for inflation if it is automatically corrected for inflation by law or in a contract.

29 MEASURING THE COST OF LIVING 28 Correcting Variables for Inflation: Real vs. Nominal Interest Rates The nominal interest rate:  the interest rate not corrected for inflation  the rate of growth in the dollar value of a deposit or debt  예금이나 부채 달러 금액의 증가율 The real interest rate:  corrected for inflation  the rate of growth in the purchasing power of a deposit or debt  예금이나 부채의 구매력 증가율 Real interest rate = (nominal interest rate) – (inflation rate)

30 MEASURING THE COST OF LIVING 29 Correcting Variables for Inflation: Real vs. Nominal Interest Rates Example:  Deposit $1,000 for one year.  Nominal interest rate is 9%.  During that year, inflation is 3.5%.  Real interest rate = Nominal interest rate – Inflation = 9.0% – 3.5% = 5.5%  The purchasing power of the $1000 deposit has grown 5.5%.

31 MEASURING THE COST OF LIVING 30 Real and Nominal Interest Rates in the U.S., 1950-2007

32 CHAPTER SUMMARY  The Consumer Price Index is a measure of the cost of living. The CPI tracks the cost of the typical consumer’s “basket” of goods & services.  The CPI is used to make Cost of Living Adjustments and to correct economic variables for the effects of inflation.  The real interest rate is corrected for inflation and is computed by subtracting the inflation rate from the nominal interest rate. 31