Sausage and beer are the sole goods in a simple economy. In year 1 a sausage costs $5.0 and a beer $2.0, whereas in year 2 a sausage costs $10.0 and a beer $2.0. In year 1, 10 sausages and 10 beers are produced. In year 2, 6 sausages and 8 beers are produced. The basket of goods defining the Consumer Price Index (CPI) is 10 sausages and 10 beers.
1. Calculate the nominal GDP in period 1 and period 2. 3pts
2. Calculate the real GDP in period 1 and period 2 when year 1 is treated as the base year. 3pts
3. Calculate the real GDP in period 1 and period 2 when year 2 is treated as the base year. 3pts
4. Calculate the growth rates of real GDP using a chain-weighting approach. 3pts
5. Calculate the rate of inflation using the implicit GDP price deflator when year 1 is treated as the base year. 3pts
6. What is the CPI in year 1 and year 2, when year 1 is treated as the base year? 3pts
7. Does the change in the CPI between year 1 and 2 overstate, understate or correctly state the change in the cost of living? Explain carefully. 2pts