<< Chapter < Page Chapter >> Page >

The price of a basket of goods

To calculate the price level , economists begin with the concept of a basket of goods and services    , consisting of the different items individuals, businesses, or organizations typically buy. The next step is to look at how the prices of those items change over time. In thinking about how to combine individual prices into an overall price level, many people find that their first impulse is to calculate the average of the prices. Such a calculation, however, could easily be misleading because some products matter more than others.

Changes in the prices of goods for which people spend a larger share of their incomes will matter more than changes in the prices of goods for which people spend a smaller share of their incomes. For example, an increase of 10% in the rental rate on housing matters more to most people than whether the price of carrots rises by 10%. To construct an overall measure of the price level, economists compute a weighted average of the prices of the items in the basket, where the weights are based on the actual quantities of goods and services people buy. The following Work It Out feature walks you through the steps of calculating the annual rate of inflation based on a few products.

Calculating an annual rate of inflation

Consider the simple basket of goods with only three items, represented in [link] . Say that in any given month, a college student spends money on 20 hamburgers, one bottle of aspirin, and five movies. Prices for these items over four years are given in the table through each time period (Pd). Prices of some goods in the basket may rise while others fall. In this example, the price of aspirin does not change over the four years, while movies increase in price and hamburgers bounce up and down. Each year, the cost of buying the given basket of goods at the prices prevailing at that time is shown.

A college student’s basket of goods
Items Hamburger Aspirin Movies Total Inflation Rate
Qty 20 1 bottle 5 - -
(Pd 1) Price $3.00 $10.00 $6.00 - -
(Pd 1) Amount Spent $60.00 $10.00 $30.00 $100.00 -
(Pd 2) Price $3.20 $10.00 $6.50 - -
(Pd 2) Amount Spent $64.00 $10.00 $32.50 $106.50 6.5%
(Pd 3) Price $3.10 $10.00 $7.00 - -
(Pd 3) Amount Spent $62.00 $10.00 $35.00 $107.00 0.5%
(Pd 4) Price $3.50 $10.00 $7.50 - -
(Pd 4) Amount Spent $70.00 $10.00 $37.50 $117.50 9.8%

To calculate the annual rate of inflation in this example:

Step 1. Find the percentage change in the cost of purchasing the overall basket of goods between the time periods. The general equation for percentage changes between two years, whether in the context of inflation or in any other calculation, is:

Level in new year – Level in previous year Level in previous year  =  Percentage change

Step 2. From period 1 to period 2, the total cost of purchasing the basket of goods in [link] rises from $100 to $106.50. Therefore, the percentage change over this time—the inflation rate—is:

106.50 – 100 100.0  =  0.065  =  6.5%

Step 3. From period 2 to period 3, the overall change in the cost of purchasing the basket rises from $106.50 to $107. Thus, the inflation rate over this time, again calculated by the percentage change, is approximately:

107 – 106.50 106.50  =  0.0047  =  0.47%

Step 4. From period 3 to period 4, the overall cost rises from $107 to $117.50. The inflation rate is thus:

117.50 – 107 107  =  0.098  =  9.8%

This calculation of the change in the total cost of purchasing a basket of goods takes into account how much is spent on each good. Hamburgers are the lowest-priced good in this example, and aspirin is the highest-priced. If an individual buys a greater quantity of a low-price good, then it makes sense that changes in the price of that good should have a larger impact on the buying power of that person’s money. The larger impact of hamburgers shows up in the “amount spent” row, where, in all time periods, hamburgers are the largest item within the amount spent row.

Questions & Answers

may anyone guide me how the financial market is linked to economics? in detail? and in simple language?
Gopal Reply
economics is all about money matter .where we use money has medium of exchange.
Madhu
Economics means optimim utilization of related factors which can be measured only by time and money
Rakesh
can anyone suggest how to put questions here?
Gopal Reply
Go on any topic for example perface
Rakesh
Then go at last and write in new conversation
Rakesh
why demand and supply equal
Ashitosh Reply
Demand equal to supply coz if supply more then price less and if price less then demand more also opposite​
Rakesh
M i right ?
Rakesh
if supply will be more then the demand, then price will fall down. same with the demand. if the demand is high, then price of the product will rise.. and equilibrium happens when both supply and demand are at equal level.
Gopal
ok thanks
Gopal
if supply is more we can store it . when the food scricty will not occur...
Madhu
and also there is group called fci(food coupration of India.)whenever there is food sacricty this council will provide food for needy people.
Madhu
If supply more then no any want to store because price will be less
Rakesh
Also can not store some products such as electricity.. Milk.. Fruits and vegetables and network
Rakesh
what is the scope of being an economist?
sheraz Reply
what is the scope of economics?
sheraz
Economies of scope is a term that refers to the reduction of per-unit costs through the production of a wider variety of goods or services.
Cette
good
Kranti
great
sheraz
but Cette I meant something else...
sheraz
I mean where can an economist find a job? I mean in which fields?
sheraz
u can work as research analyst and business consultant.
Gopal
market research analyst i mean to say.. u can find jobs in such as Deloitte, KPMG, JP morgan, or any other market research company. u can find it on google by just typing market research companies in your country
Gopal
U can decide to print amount of money .. Can decide the budget and can understand share market .. Means jobs anywhere to understand market trends means companies are going to long term benefits with social welfare with maximum utilization of related factors
Rakesh
Does trade war effect world economy growth?
Yes,it does
Madhu
yh it will
Cette
yup
sheraz
Yes it will create more problems to economy like food sacricty. and it affects towards production and loss through our national income or GDP.
Madhu
what is the difference between explicit cost and implicit cost
ustaz Reply
explicit cost:it is the cost which company made for purchasing or hiring resources from the factor owner. implicit cost : the cost of the owner of the company pay for the project.
دولت
explicit cost is that cost which is identified by the books of accounts of an organisation
Amulya
implicit cost is that cost which is not shown in the books of accounts but due to this cost organisation gets some benefits
Amulya
what is supply
Motunrayo
The willing and able to sells their goods in various price of a commodity is called supply.
Niraj
what are the laws of supply
Motunrayo
what is lonrenzo curve
osidele
What is price elasticity of demand?
Kanishka Reply
price elasticity of demand is a measure used in economics to show elasticity of quantity demanded of good or service to get a change in it's price while nothing but price changes.
Madhu
Price elasticity of demand is a measure of the change in the quantity demanded of a product in relation to its price change Price elasticity of demand = % change in quantity demand / % change in Price
Gaurav
Pls where can I found PRICE CONTROL on this app
Samuel Reply
top left corner
JUDE
A situation in an economy with one producer but many consumers
Kabali Reply
What is the theory of population according to Malthus?
Kabali
What is the Malthusian population theory?
Kabali
The Malthusian theory of population state that, where there are means of substinence like food, human beings have the tendency to procreate (ie.give birth) without restraint (ie. control).
George
he stated that population unchecked grows at a geometric progression ie 1,2,4,8,16 while the means food subsistence grows at arithmetic progression ie 1,2,3,4,5---- he declared that population has the tendency to outstrip the means of subsistence
Fung
What is money?
Kabali
money is any commodity that act as a medium of exchange
Fung
money is medium of exchange which is use in taking goods and giving some of it's worth or money value
Madhu
what is a debit card and a credit card?
Milly
a debit card is a payment card used instead of cash while purchasing
Madhu
a credit card is a payment card issued to users to enable cardholder to pay a merchant for goods and services
Madhu
oky tanx
Milly
good
ABDUL
What is an inferior good.?
Kabali
In economics, an inferior good is a good whose demand decreases when consumer income rises (or demand rises when consumer income decreases), 
Rams
in that case scarcity of food will occur
Madhu
what is monopoly
Richmond Reply
a market situation when there is only one seller of a product representing whole industry.
how
where one business is the dominant one in that market. It determines the market price as they are price makers. No entry, no competition.
karl
it is a market situation where is a single seller and many buyer hear the seller is the price maker the is no free entering and exit in this market
Fung
A situation in the economy where there is one producer and many consumers
Kabali
A market situation where there is one producer and many consumers.
Kabali
Balance of payments for 2018
Mahlatse Reply
what is monopoly and what is monopolaist
Javid Reply
what is the affect of rise in value of dollar ?
Shabana
monopoly"a single firm or company owns all or nearly all of the market for a given type of product or service "monopoly is a price maker ...barrier of entry ,non availability of close substitute.
Shabana
monopolistic competition or market is a situation where there are few or many firm producing identical but differentiated product .eg difference in advertisement ,packing etc
Shabana
monopolistic competition or market is a situation where there are few or many firm producing identical but differentiated product .eg difference in advertisement ,packing
jay
monopoly is a market situation ...where there is a single seller and large number of buyers deals with commodities having no close substitutes......here the sellers are price makers... there is restrictions in the entry and exit of new firms in this market structure....
lovely
what is money?
Hilary
money is a medium of exchange.....through which...commodities are bought and sold
lovely
money is a medium/means of exchange that generally accepted by law
Prince
What is tranfer earnings
Admire
what is savings income?
Limitles
transfer earning is the minimum income that a factor is willing to accept in an occupation,it is also call the supply price of a factor
Fung
what is envelope curve
Dharam
what is depreciation
Fung
depreciation means decrease in value of a assets due to normal wear or year ,means decrease in value of assets like a machine due to its daily use
ru
Refers to wear and tear of capital machinery
apule
what is meant by currency depreciation?
Shabana
an envelope curve is also call an umbrella curve it is any curve that is enclosed by being tangen t to a series of other curves
Fung
fall in the value of currency vis-a-vis any other currency usually $ due to marker forces is called currency depreciation. it is different from devaluation where in value of currency is deliberately reduced to improve BoT
mohammad
depreciation in its broad sense means loss in the value of fixed capital say a tractor due to i) normal wear and tear ii) normal rate of accidental damage iii) expected absolescence to meet this, Depereciation Reserve Fund is created it is calculated by firms on the basis of their experience.
mohammad
what is green revolution ?discuss the achievement of green revolution in India
Sweety Reply
green revolution is the third revolution of agricultural refers to a set of research and development of technology transfer initiative occuring between 1930s and the late 1960s that increased agricultural is called green revolution
Javid
the green revolution happened because to improve the agricultural sector towards adopting mordern methods and improvement of agricultural equipments
Madhu
green revolution means new innovation for high yielding varieties seeds towards economic development in agriculture sector. started in 1966, it's achievement increase per productive of all crops ie rice, wheat,maiz,etc...mainly 131 million food grain in 1978-79 produced in india
Rams
Punjab and haryana was the first 2 states which have been successfully adopted hyv's and due to this adoption these two states find more successfull in india and it contributed though our national income and also to GDP growth this helps in development of our nation.
Madhu
what calculation for demand and supply
Amoo Reply
what is nationalisation
Awuni Reply
it is a process of converting private assets into public assets by undertaking the control of government or state authority
ru
yes
Emmanuel
so true
Violet
what are some the things that may lead to nationalisation
Fung
Over exploring of customers by the private individuals Also to make the nationalised organisation social reliable and accessible by all
Richard
feeling of one's is called nationalisation. unity among them self .
Madhu
this is according to History nationalisation means being unity.
Madhu

Get the best Principles of economics course in your pocket!





Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
Google Play and the Google Play logo are trademarks of Google Inc.

Notification Switch

Would you like to follow the 'Principles of economics' conversation and receive update notifications?

Ask