Final answer:
The rate of inflation over the past year, calculated from a CPI of 126 to a previous year's CPI of 120, is 5%. The CPI measures the change in the cost of a typical basket of goods and services, providing a clear picture of how inflation impacts the cost of living.
Step-by-step explanation:
Understanding the Rate of Inflation Using the CPI
The Consumer Price Index (CPI) is a critical measure used to determine the rate of inflation. It represents the change in the level of prices of a basket of goods and services that are typically purchased by households. To calculate the rate of inflation, you compare the CPI from one year to the CPI of the previous year and then determine the percentage increase.
To find the rate of inflation over the past year, given that the CPI is currently 126 and was 120 one year ago, you would use the following formula:
Rate of Inflation = ((CPI Current Year - CPI Previous Year) / CPI Previous Year) * 100
Plugging in the given values we get:
Rate of Inflation = ((126 - 120) / 120) * 100
Rate of Inflation = (6 / 120) * 100
Rate of Inflation = 0.05 * 100
Rate of Inflation = 5%
Thus, the rate of inflation over the past year was 5%. This calculation shows how the cost of living has increased, which impacts the buying power of the paycheck of the typical urban consumer.
In understanding inflation rates, it's important to recognize that although the CPI may increase by the same number of points each year, the rate of inflation can differ. This is because the rate is a percentage, so the same increase on a higher index number will yield a lower rate of inflation, as percentages represent relative changes. The CPI altogether serves as the best index to gauge how prices affect the average consumer's cost of living.