Suppose that the price of chicken rises sharply compared to the price of turkey. In response, consumers buy more turkey and less chicken than they did in the CPI base year. In this situation, the CPI will tend to ___________ inflation as a result of _____________ bias. understate; substitution bias. overstate; lifestyle bias. overstate; outlet bias. understate; increase in quality bias. overstate; substitution bias
Question
Suppose that the price of chicken rises sharply compared to the price of turkey. In response, consumers buy more turkey and less chicken than they did in the CPI base year. In this situation, the CPI will tend to ___________ inflation as a result of _____________ bias.
understate; substitution bias.
overstate; lifestyle bias.
overstate; outlet bias.
understate; increase in quality bias.
overstate; substitution bias
Solution
Answer: The Consumer Price Index (CPI) measures the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services. However, the CPI assumes a fixed basket of goods and does not account for consumers substituting cheaper goods when prices change, which is known as substitution bias.
In this case, when the price of chicken rises sharply compared to the price of turkey, consumers buy more turkey and less chicken. However, the CPI still calculates the inflation rate based on the old consumption basket, which includes more chicken and less turkey. This leads to an overestimation of the average price level and thus the inflation rate.
Therefore, the correct answer is:
overstate; substitution bias.
Similar Questions
The quality change bias is most likely to put ________ into the CPI and so ________ the inflation rate. a. a downward bias; overstate b. a downward bias; understate c. an upward bias; understate d. an upward bias; overstate
If consumers purchase fewer of those products that increase most in price and more of those products that increase less in price as compared to the CPI basket, then changes in the CPI ___________. understate the true rate of inflation are smaller than the change in the GDP deflator. reflects the decrease in quality bias overstates the true rate of inflation reflects the increase in quality bias
If consumers purchase fewer of those products that increase most in price and more of those products that increase less in price as compared to the CPI basket, then changes in the CPI __________
Explain how inflation targeting can reduce the problem of inflation bias.
Which of the following exemplifies the outlet bias in the computation of the CPI?Question 53Select one:a.Roxanna refuses to shop at factory outlet stores because she says that the layouts of the stores are too chaotic and therefore is too time-consuming.b.Yu-Jen does most of her family's shopping at Costco instead of Safeway because the prices at Costco are more competitive.c.Katie prefers to buy her groceries at Whole Foods because they carry a wide selection oforganic produce.d.Diana does her holiday shopping when she travels to China to take advantage of the "great deals" on most items.
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