Question

Suppose consumers typically buy some combination of various meats (chicken, beef, pork, and fish).

Suppose the price of fish and beef rise much more than chicken and pork. The effect on the price index is likely ________; this is called the _________.

a)overstated; substitution effect

b)understated; substitution effect

c)overstated; price effect

d)understated; price effect

Answer 1

The effect on the price index is likely overstated ; this is called the substitution effect.

Explanation:

For a given type of goods or services in the given area, a price index is a weighted average of price relative to that class over a given period of time.

It is a metric to allow you to measure the gap between the time periods or geographical locations of these price relations as a whole.

From an investor point of view, the CPI, as an inflation proxy, is a critical measure which can be taken to nominally estimate the total return that an investor needs in order to achieve its financial objectives.