ECON 100 Lecture 19 Wednesday, April 16.

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1 ECON 100 Lecture 19 Wednesday, April 16

2 Measuring the Cost of Living

3 The Consumer Price Index (CPI)
Economists measure the rate of inflation by the percentage change in the Consumer Price Index (CPI) over a given period of time (usually a month or a year). Tüketici Fiyat Endeksi (TÜFE)

4 The Consumer Price Index (CPI)
The consumer price index (CPI) is a measure of the overall cost of the goods and services bought by a typical consumer. Every month Türkiye İstatistik Kurumu (TÜİK) announces the Tüketici Fiyat Endeksi (TÜFE).

5 The Consumer Price Index (CPI)
When the CPI rises, the typical family has to spend more money to maintain the same standard of living.

6 How is the CPI calculated?
100% sure exam question

7 The typical consumer’s consumption basket: {4 dürüm, 10 ayran}
TL3.00 TL2.50 TL2.00 price of ayran TL12 2005 TL 11 2004 TL10 2003 price of dürüm year cost of basket TL10 x 4 + TL2.00 x 10 = TL60 TL11 x 4 + TL2.50 x 10 = TL69 TL12 x 4 + TL3.00 x 10 = TL78 Compute CPI 2003: 100x(TL60/TL60) = 100 2004: 100x(TL69/TL60) = 115 2005: 100x(TL78/TL60) = 130 100x[cost of the basket in current year/cost of the basket in base year] 15% Suggestion: Show students the data in the first three columns of the table. Before showing them the cost of basket calculations, tell them to take 3 minutes to compute the cost of the basket in each of the three years, and use those results to compute the value of the CPI in each of the three years. Then, show the rest of the slide. Inflation rate 13%

8 Whose inflation rate is it anyway?

9 Do prices increase faster for some than for others?

10 Low income households have different spending patterns than high income households.

11 Low income households spend a larger fraction of their budget on food, and on “housing and household utilities”.

12 Comparing prices: now and then
University tuition rates, footballers’ transfer fees, the price of a loaf of bread, gasoline prices, etc

13 Correcting Variables for Inflation: Comparing dollar/lira figures from different times
Inflation makes it harder to compare dollar/lira amounts from different times. We use the CPI to adjust figures so that they can be compared.

14 Benzin fiyatları Döviz kuru ve uluslararası ham petrol fiyatlarındaki değişimlerin etkisiyle her geçen gün el yakan benzinin litre fiyatına bir vatandaş 2000 yılında 0,58 lira öderken 2010 yılında ise 3,68 lira ödedi.

15 Benzin fiyatları 6 Mart ve 97 oktan kurşunsuz benzin fiyatlarında 10 kuruş indirim yapıldı. İstanbul ve İzmir'de 95 oktan kurşunsuz benzinin litresi 4,74-4,76 lira oldu. 8 Nisan 2014 Enerji Piyasası Düzenleme Kurulu, tavan fiyatı uygulamasında baz alınan İstanbul Avrupa Yakası'nda 9-11 Nisan arasında benzinin tavan satış fiyatını 4,97 lira olarak belirledi.

16 In 2000 gasoline price was 0,58 lira/liter In April 2014 gasoline price is 4,97 lira/liter Was gasoline cheaper in 2000 than now?

17 http://hurarsiv.hurriyet.com.tr/goster/haber.aspx?id=-86653 19.06.1999
Tanju Çolak 1991'de Galatasaray'dan Fenerbahçe'ye geçerken iki yıl için 3,5 milyara anlaşma yapmıştı.

18 http://hurarsiv.hurriyet.com.tr/goster/haber.aspx?id=-86653 19.06.1999
Ancak beş yıl içinde ücretlerin dövize endekslenmesiyle beraber rakamlar tırmanışa geçti yılında Fenerbahçe'yle sözleşme yenileyen kaleci Rüştü Reçber 100 milyara imza attı.

19 Annual salary: 2,5 million euros

20 Daily Bread

21 Daily Bread 1970 620 gr 1 Lira 1980 480 gr 7,5 Lira 1990 320gr
2000 200gr 100,000 Lira 2010 300gr 50 krş 2012 250gr

22 Koç Üniversity tuition rate in 1998 6,500 USD
Koç Üniversity tuition rate in ,500 USD : 33,500 TL : 36,500 TL

23 How do we compare prices from the past?

24 EXAMPLE: The price of gasoline in the US
Price of a gallon of regular unleaded gas: $1.42 in March 1981 $2.50 in August 2005 To compare these figures, we will use the CPI So that we can “express” the 1981 gas price in “2005 dollars,” Source of data: Bureau of Labor Statistics,

25 EXAMPLE: The price of gasoline in the US
What does that mean? “express” the 1981 gas price in “2005 dollars,”? It means… What gas in 1981 would have cost if the average price level were the same then as in 2005. Or, starting at $1.42 in March 1981, if the price of gasoline were to increase exactly at the same rate as the average price level, what would it be in 2005? Source of data: Bureau of Labor Statistics,

26 EXAMPLE: The price of gasoline in the US
How does one “express” the 1981 gas price in “2005 dollars”? We multiply the 1981 gas price by the ratio of the CPI in to the CPI in 1981. 1981 price x [CPI2005/CPI1981] Source of data: Bureau of Labor Statistics,

27 EXAMPLE: The High Price of Gasoline
196.4 $2.50/gallon 8/2005 88.5 $1.42/gallon 3/1981 CPI Price of gas date Gas price in 2005 dollars $3.15/gallon $2.50/gallon 1981 gas price in 2005 dollars = $1.42 x 196.4/88.5 = $3.15 After correcting for inflation, we see that gas was more expensive in 1981. Thus, if the cost of living in 1981 had been the same as it was in 2005, the price of gas in 1981 would have been $3.15/gallon.

28 A C T I V E L E A R N I N G : Exercise
1980: CPI = 90, avg starting salary for econ majors = $24,000 Today: CPI = 180, avg starting salary for econ majors = $50,000 Are econ majors better off today or in 1980? These data are hypothetical. Neither I, nor Greg Mankiw, nor Thomson/South-Western can be held responsible if students subliminally acquire the perception that majoring in economics is a good thing to do.

29 A C T I V E L E A R N I N G: Answers
1980: CPI = 90, avg starting salary for econ majors = $24,000 Today: CPI = 180, avg starting salary for econ majors = $50,000 Solution Convert 1980 salary into “today’s dollars” formula: Salary in 1980 x (CPI today/CPI in 1980) $24,000 x (180/90) = $48,000. After adjusting for inflation, salary is higher today than in 1980.

30 A C T I V E L E A R N I N G: Exercise
Are minimum wage earners better off today or in 2008? Minimum wages, Turkey These data are hypothetical. Neither I, nor Greg Mankiw, nor Thomson/South-Western can be held responsible if students subliminally acquire the perception that majoring in economics is a good thing to do.

31 A C T I V E L E A R N I N G: Exercise
Jan 2008 CPI = 12796, after tax and deductions minimum wage : 481,55lira March 2014 CPI = 20654, after tax and deductions minimum wage : 846lira Are minimum wage earners better off today or in 2008? These data are hypothetical. Neither I, nor Greg Mankiw, nor Thomson/South-Western can be held responsible if students subliminally acquire the perception that majoring in economics is a good thing to do.

32 Now the outrageous salaries of the footballers

33 Rüştü Reçber 100 billion TL in 1996 Let’s write this out 100,000,000,000 TL Rüştü’s 100 billion without the 6 zeros

34 28 Ocak 2004— Dünyadaki en büyük kupürlü banknota sahip Türkiye’nin para birimi olan liradan altı sıfır atılması ve Yeni Türk Lirası’nın 1 Ocak 2005’ten itibaren kullanıma girmesine ilişkin yasa tasarısı TBMM Genel Kurulu’nda oylanarak kabul edildi.

35 Rüştü Reçber 100 billion TL in 1996 Let’s write this out 100,000,000,000 TL Rüştü’s 100 billion without the 6 zeros 100,000 TL

36 Rüştü Reçber How much is 100,000TL in 1996 worth in current (2013) prices? We need the value of CPI in 1996 and in 2013

37 1994 Based Consumer Price Index Numbers, 1994-2006.

38 Rüştü Reçber Rüştü’s 100 billion without the 6 zeros is 100,000 TL How much is this in current (2013) prices? CPI Jan 1996: 260 (with 1994 = 100) CPI Jan 2013: Let’s get to work… 100,000 x (18874/260) = 100,000 x 72,5 = 7,250,000TL

39 Is this a lot of money 7,3 million liras for a goalkeeper for a two year contract?

40 Volkan’a Müthiş Teklif! Fenerbahçe’nin başarılı milli kalecisi Volkan Demirel’e yönetimden aldığı ücretle ilgili süper teklif yapılacak.. Yönetici Ali Yıldırım’ın masaya oturacağı tecrübeli eldivenin yıllık 1.5 milyon euro olan ücretinin 2.5 milyon euro’ya çıkarılıp imza attırılacağı belirtildi. VOLKAN’A UZATMA Fenerbahçe’nin, G.Saray derbisinde yaptığı müthiş kurtarışlarla galibiyetin mimarı olan Volkan Demirel’in sözleşmesini uzatmak için harekete geçtiği ortaya çıktı. Sarı- Lacivertliler’in 30 Haziran 2013’e kadar anlaşması olan tecrübeli file bekçisiyle önümüzdeki günlerde masaya oturacağı kaydedildi.

41 2,5 mill euros x 2,35 = 5,875 mil/year 2,5 mill euros x 2,90 = 7,25 mil/year

42 Now the university tuition rates

43 Koç Üniversitesi tuition rates in 1998: USD6,500
Koç Üniversitesi tuition rates in 1998: USD6,500. The exchange rate On Jan 2 1USD = 207,000TL. On Dec 30 1USD = 315,000TL.

44 Koç Üniversitesi tuition rates in 1998: USD6,500
Koç Üniversitesi tuition rates in 1998: USD6,500. Suppose you pay the tuition on September 1! On that day 1 USD = 277,000TL KU tuition in 1998 in TL 6,500 x 277,000 = 1,800,500,000TL Drop 6 zeros: 1,800.5TL Drop the 50 krş TL 1,800

45 KU tuition in 1998 in was 1,800lira
KU tuition in 1998 in was 1,800lira! CPI in September 1998 : 1274 (with 1994 = 100) CPI in September 2013: x (19499/1274) = 1800 x 15,3 = 27,540TL

46 Daily Bread 1970 620 gr 1 Lira 1980 480 gr 7,5 Lira 1990 320gr 1000 Lira 2000 200gr 100,000 Lira 2010 300gr 50 krş 2012 250gr In which year is one kg of bread more expensive: 2000 or 2012?

47 CPI (TÜFE)

48 The nominal interest rate is:
The last example for “Correcting Variables for Inflation”: Real vs. Nominal Interest Rates The nominal interest rate is: the interest rate not corrected for inflation the rate of growth in the TL value of a deposit or debt

49 The real interest rate:
The last example for “Correcting Variables for Inflation”: Real vs. Nominal Interest Rates The real interest rate: corrected for inflation the rate of growth in the purchasing power of a deposit or debt

50 The 100% correct formula for real interest rate
Real interest rate = (1 + nominal interest rate) / (1 + rate of inflation) – 1

51 If the nominal interest rate and the rate of inflation are both small (in the 5 to 10% range), then we can use the following formula as an approximation: Real interest rate = (nominal interest rate) – (inflation rate)

52 Real and Nominal Interest Rates: EXAMPLE
Real and Nominal Interest Rates: EXAMPLE Put 1,000TL in the bank for one year. Nominal interest rate is 9%. Yearly inflation is 3.5%. Real interest rate = Nominal interest rate – rate of Inflation = 9.0% – 3.5% = 5.5% The purchasing power of the 1,000TL deposit has grown 5.5%. 31

53 18 Ekim 2012 Perşembe Faiz Düştü Düşmesine de http://www. mahfiegilmez
Türkiye'de brüt nominal mevduat faizi ortalama yüzde 8,5. Bunun vergisi yüzde 15. Bu durumda net nominal faiz yüzde 7,2 oluyor. “In Turkey, the before-tax nominal interest rates on deposits is around 8,5%. There is 15% tax on interest income. So, the nominal after tax interest rate is about 7.2%.” Suppose you expect the rate of inflation to be 6% next year. What is the expected real interest rate?

54 Assume that the tax on bank deposits is 15%
Assume that the tax on bank deposits is 15%. That means: if you earn 100 lira interest income you pay 15 lira to the tax collector. The annual inflation is 8%. Please compute the real interest rate.

55 Real and Nominal Interest Rates in the U.S.
This graph replicates Figure 3 from this chapter. The figure is constructed using quarterly data from the U.S. The nominal interest rate is the rate on a three-month Treasury Bill. The real interest rate is the same, minus the inflation rate as measured by the percentage change in the CPI. Notice that the nominal and real interest rates often do not move together, indicating that the real interest rate varies over time. Sources: CPI – Bureau of Labor Statistics Treasury bill rate – Board of Governors of the Federal Reserve System. I obtained both from the Federal Reserve Bank of St. Louis “Fred” database:

56 Figure 3 Real and Nominal Interest Rates
Copyright©2010 South-Western

57 Real and nominal interest rates in Turkey

58 End of the lecture