Principles of Macroeconomics
by
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PRACTICAL APPLICATIONS OF A PRICE INDEX
In 2002 a worker earned $3600 per month. In 2003 she still earned $3600. If the Price Index was 120 in 2003, how much must the work earn 2003 to live as well as in 2002? (i.e. maintain the same standard of living)
In 2003 you are still getting $3600. This is your current value. Since prices have gone up by 20%, your pay is now worth less. The real value has gone down. You have lost purchasing power. A dollar is now buying less. If, for example, $3600 bought 3600 loaves of bread, at $1.00 each, now at the price of $1.20 you can only buy 3000 loaves with your $3600 ($3600/1.20 = 3,000). In order to buy the same amount of bread at 2003 prices, you need twenty percent more money than you earned in 2002 (i.e. 3,600 x 1.20 = 4320). Now $4320, will buy you 3600 (4320/1.20 = 3600) loaves of bread, the exact amount you bought in 2002. In other words the real value for a pay of $4320 in 2002 dollars is $3,600.
When the general price level goes up by 20%, it means your pay of $3600 in 2003 is no longer valued at 100% (base year) it is at 120%. In other words it is inflated by 20%. 3600 is no longer equivalent to 100%. What is the number that is actually equivalent to 100?
3600 = 120
X = 100
120X = 3600 x 100, X = 3,000. $3000 is the real value of the $3,600 wage you receive in 2003 at 2002 prices. [1]
[1] Do not be tempted to subtract 20% from the current value to get the real value.
To get real value you divide the current value by the index and multiply by 100. Subtracting percentage changes will give you wrong results. Ex. 20% of 3600 is not the same as 20% of 4320. 20% of 3600 is 720. 3600 + 720 = 4320. However, 20% of 4320 is 864. If you subtract 864 from 4320 you will not get 3600. You will get 3456. To get 3600 you must divide 4320 by 120 and multiply by 100. Similarly you should not subtract 20% of 3600 from 3600 to get the real value. You must divide 3600 by 120 and multiply by 100.
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Book Details
About the Book
The purpose of this book is to
provide instructors and students a concise text that covers the core principles
of macroeconomics that can be taught in a semester. This is done without
sacrificing the content or the rigorous examination of macroeconomic theory. It
deliberately avoids overwhelming students with information overload.
The book does not seek to make
economics interesting, entertaining, or ‘simple’.
It simply encourages the mastery
and application of the basic macroeconomic principles, and the development of
critical thinking. It emphasizes the mastery of the basic economic principles
by repeating explanations and definitions of certain economic concepts like
economic efficiency, a change in demand versus a change in quantity demanded
and by placing an emphasis on problem solving. In some cases synonyms of
certain words are provided. Do not, therefore, be surprised by the repetitive
nature of the book because the motto is to ‘leave no student behind’.
The main distinguishing
characteristic of this book is its structure. I have always subscribed to the
philosophy of a certain great educator (I cannot remember his name) who said
that ‘you can teach anything to anybody as long as it is well structured’. This
has been the guiding principle in my teaching and in writing this book.
Homework problems are provided at
the end of some chapters and again the idea is to encourage students to apply
economic concepts, think critically, write about economic issues, and develop
problem-solving skills. To that end, multiple-choice questions are avoided and
there is no test-bank. It is left to the instructor to design tests that will
give a proper feedback on the understanding and application of the course
material covered.
About the Author
Dr.
Dr. Lwamugira
received a Bachelor of Arts degree from the University of
East Africa, University College Dar es Salaam; an MBA degree in Banking and
Finance from
Dr. Lwamugira
has a varied experience in teaching economics to students of different
backgrounds over thirty years. Before becoming tenured at Fitchburg State
College, he had been a teacher at St. Thomas Moore's College, Ihungo, in