Consumer Price Index

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ConsumerPriceIndex
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Nominal vs. Real Prices (or wages)
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Nominal pricelist or actual cost given
current value of money
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Nominal priceUseful for comparisons within
same time periodand in same location
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Problem with nominal pricesCannot make
meaningful comparisons of prices across time
periods or locations.
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Prices of products in 1962

• 0.05 for a Hershey bar
• 0.05 for a copy of New York Times
• 0.04 for first class postage stamp
• 0.31 for gallon of regular gas
• 0.28 for McDonalds double hamburger
• 2,529.00 for full-size Chevrolet

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Why cant one compare 1962 prices with prices for
same or similar products today? More
precisely, why are such comparisons meaningless?
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Real priceCost relative to general economic
conditions in a place and time.
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A B C
DePaul tuition 20,000 20,000 20,000
Vacation 5,000 20,000 2,000
Corvette 50,000 95,000 25,000
Concert tickets 200 2000 50
Apartment 18,000 50,000 900
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DePaul tuition is more in column C than in
column A or B and is lessin column Bthan in
column A
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Why?
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Why?Because the price of an item only has
meaning in terms of what one passes up to buy it.
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Similarly with wagesIncome only can be
evaluated in terms of what can be purchased with
it.
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InflationA general rise in prices in an
economy.
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DeflationA general decrease in prices in an
economy.
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Inflation and deflationcreate disparities
between real and nominal prices.
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Suppose a young person gets an allowance of 10
per week. Her allowance allows her a certain
level of consumption.
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Suppose that the prices of goods she normally
buys increase by 20 and her father increases her
allowance to 11.
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Has her allowance increased?
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AnswerHer nominal allowance has increased
buther real allowance has decreased.