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Understanding CPI and GDP Deflator Differences

The document discusses inflation rates and different price indexes used to measure inflation, specifically the GDP deflator and the Consumer Price Index (CPI). It explains that the GDP deflator measures price changes of all goods and services produced domestically, while the CPI measures price changes of goods and services purchased by consumers. The document also outlines differences in how the indexes are calculated, such as the CPI using a fixed basket of goods while the GDP deflator allows the basket to change over time.

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Abeda Sultana
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15 views17 pages

Understanding CPI and GDP Deflator Differences

The document discusses inflation rates and different price indexes used to measure inflation, specifically the GDP deflator and the Consumer Price Index (CPI). It explains that the GDP deflator measures price changes of all goods and services produced domestically, while the CPI measures price changes of goods and services purchased by consumers. The document also outlines differences in how the indexes are calculated, such as the CPI using a fixed basket of goods while the GDP deflator allows the basket to change over time.

Uploaded by

Abeda Sultana
Copyright
© All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd

ECO102- Chapter 2:Inflation

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 Inflation rate in year t (using GDP deflator) =

x 100 %

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Question 1

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Consumer Price Index (CPI)

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Difference between CPI and GDP deflator

The purpose of any price index is to measure the cost of living — that is, how much it
costs to maintain a given standard of living.
1. GDP deflator measures the prices of all goods and services produced, whereas CPI
measures the prices of only the goods and services bought by consumers. Thus, an
increase in the price of goods bought by firms or the government will show up in the
GDP deflator but not in the CPI.
2. GDP deflator includes only those goods produced domestically. Imported goods are
not part of GDP and do not show up in the GDP deflator. For example, an increase in
the price of Toyota made in Japan and sold in the U.K. affects the CPI or RPI, because
the Toyota is bought by consumers in the U.K., but it does not affect the GDP
deflator.

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Difference between CPI and GDP deflator

3. The CPI assigns fixed weights to the prices of different goods, whereas the GDP
deflator assigns changing weights. In other words, the CPI is computed using a
fixed basket of goods, whereas the GDP deflator allows the basket of goods to
change over time as the composition of GDP changes.
4. The CPI uses a fixed basket, whereas the GDP deflator uses a changing basket. 
5. A price index with a fixed basket of goods is called a Laspeyres index and a
price index with a changing basket is called Paasche index. Economists have
studied the properties of these different types of price indexes to determine
which is better. The answer is that neither is clearly superior. When prices of
different goods are changing by different amounts, a Laspeyres index tends to
overstate the increase in the cost of living, whereas a Paasche index tends to
understate it.

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CPI in Bangladesh

 [Link]
ad9eb1_91ac_4998_a1a3_a5caf4ddc4c6/2020-07-06-15-52-
[Link]

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Question 2

a) Calculate the weighted cost of market basket in base year.


b) Calculate the weighted cost of market basket in 2017-18.
c) Calculate CPI for 2017-18. What does the value of the CPI
mean?
d) Calculate the inflation rate of 2017-18 using CPI.

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