Question

Using the CPI to calculate the inflation rate​ _______________ the underlying inflation​ rate, and using the core inflation rate​ ___________ it. A. ​understates; also understates B. ​understates; overstates C. ​overstates; also overstates D. ​overstates; understates E. none of the above

Answer 1

D. Overstates; Understates

Step-by-step explanation:

The CPI (Consumer Price Index) overstates the underlying inflation rate because when the price of a commodity rises, consumers tend

to purchase less of it and seek for

substitutes instead. Conversely, as the price of

a commodity falls, consumers tend to purchase more

of it. The above suggests that commodities with

generally rising prices would become less important in the stock of commodity used to calculate inflation, while commodities with falling prices would become more

important. In conclusion, CPI doesn't take into account that consumers can substitute commodities whose prices has risen with cheaper ones.

Also, the core inflation measures the more persistent underlying inflation rather than transitory influences on the price level thereby understating it.

Answer 2

E. None of the above

Step-by-step explanation:

Over the years, CPI has evolved from a Cost Of Goods Index(COGI) to a Cost Of Living Index(COLI). Consumer Price Index now reflects changes in the cost to maintain constant standards of living. The methodology used to calculate CPI has been duly revised, and the revision has removed the bias that caused the CPI to overstate the inflation rate.