Question

Assume the CPI increases from 100 to 120 and a person's nominal income increases from $40,000 to $48,000 over the same period. This person's real income has ____.

Answer 1

Answer:

The real income is the same

Explanation:

The CPI increased 20% from 100 to 120.

The nominal income increased 20% from $40,000 to $48,000 ($40,000 x 20% = $8,000).

Thus, both the CPI and nominal income have grown 20%, inflation eliminates the nominal gain in real terms.

Another form to reach the same conclusion is to use the real wage formula:

Real wage = (nominal wage in a year / CPI in a year)*100

Real wage  = ($48,000 / 120)*100

                   = $40,000

So, real wage for year 2 is $40,000, same as for year 1.