Sample Inflation Exercises 1

1. The price of gasoline is currently $2.30 per gallon. If the price is expected to increase at a rate of
3% per year, how much do you expect a gallon of gas to cos in 4 years?

2. The price of a vacation home is currently $300,000. If the price of vacation homes is increasing
at a rate of 5% per year, how much would a vacation home cost in 10 years?

3. You purchase a painting today for $8,000. Paintings by this artist are expected to increase in
value by 4% per year. How much do you expect the painting to be worth in 5 years?
Sample Inflation Exercises 1

𝑁𝑜𝑚𝑖𝑛𝑎𝑙 𝑃𝑟𝑖𝑐𝑒 = (𝑟𝑒𝑎𝑙 𝑝𝑟𝑖𝑐𝑒)𝑥(𝑝𝑟𝑖𝑐𝑒 𝑙𝑒𝑣𝑒𝑙)

(1 + 𝑁𝑜𝑚𝑖𝑛𝑎𝑙 𝑟𝑎𝑡𝑒 %) = (1 + 𝑟𝑒𝑎𝑙 𝑟𝑎𝑡𝑒 %)𝑥(1 + 𝐼𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 𝑅𝑎𝑡𝑒 %)

4. The nominal price (per pound) of apples for each year is shown in the time line below.

Calculate the real price of apples for each year (as seen from year 2001)

0 2001 2002 2003 2004

$2.40 $2.60 $2.75 $2.90 Nominal Price

0 2001 2002 2003 2004

Price Level

150 152 157 160

0 2001 2002 2003 2004

Price Adjustment Factor

0 2001 2002 2003 2004

Real Price of Apples

Sample Inflation Exercises 1

5. The nominal price of a gallon of gasoline for each year is shown in the time line below.

Calculate the real price of gasoline for each year (as seen from year 2001)

0 2001 2002 2003 2004

$1.95 $2.05 $2.50 $2.75 Nominal Price

0 2001 2002 2003 2004

Price Level

160 165 173 191

0 2001 2002 2003 2004

Price Adjustment Factor

0 2001 2002 2003 2004

Real Price of a gallon of
gasoline
Sample Inflation Exercises 1

6a. When Kevin started working 30 years ago, his salary was $50,000. His current salary is $175,000.

How much has Kevin’s salary increased in nominal terms over the 30 years?

6b. When Kevin started working, the price level was 118, while the current price level is 286. How
much has Kevin’s salary increased in real terms over the 30 years?

6c. What was Kevin’s average per year percentage raise in real terms over the 30 years?
Sample Inflation Exercises 1

7. In 1975 the price of a new house was $48,000. In 2015 the price of a new house is $270,200.
How much has the price of housing increased over the entire 40 years in percentage terms?
Sample Inflation Exercises 1

8. In 1975 the price of a new house was $48,000. In 2015 the price of a new house is $270,200.
How much has the price of housing increased on average per year over the 40 years in
percentage terms?
Sample Inflation Exercises 1

9. In 1975 median income was $12,686, while in 2015 median income was $51,759.

In 1975 the price level was 32, while in 2015 the price level was 140.

What was real income in 2015?

Sample Inflation Exercises 1

10. In 1975 the minimum wage was $2.10, while in 2015 it was $4.91.

In 1975 the price level was 32, while in 2015 the price level was 140.

What was real minimum wage in 2015?

Sample Inflation Exercises 1

11. If electricity costs $0.18 per KWH today and the price of electricity is expected to increase at
1.87% per year for the next 10 years, how much will electricity cost in 10 years per KWH?
Sample Inflation Exercises 1

12a. You need to have the current equivalent of $200,000 in 3 years. You expect inflation to average
3% over the next three years. Your investments earn 5% APR compounded annually.

How much do you have to deposit each year for three years (starting next year and the same
amount in each year) in nominal terms to fund the $200,000 in real term in three years?
Sample Inflation Exercises 1

12b. You need to have the current equivalent of $200,000 in 3 years. You expect inflation to average
3% over the next three years. Your investments earn 5% APR compounded annually.

How much do you have to deposit each year for three years (starting next year and the same
amount in each year) in real terms to fund the $200,000 in real term in three years?
Sample Inflation Exercises 1

12c. You need to have the current equivalent of $200,000 in 3 years. You expect inflation to average
3% over the next three years. Your investments earn 5% APR compounded annually.

How much do you have to deposit each year for three years (starting next year) in nominal
terms to fund the $200,000 in real term in three years? (Growing nominal annuity)