Last year, you earned a nominal wage of $10 per hour and the price level was 120. This year your nominal wage is $11 per hour, but you are unable to purchase the same amount of goods as last year. The price level this year must be

Question

a. 135.
b. 132.
c. 121.
d. 125.

Answer 1

To determine the price level this year, we can use the concept of real wages. The real wage is calculated as:

\[ \text{Real Wage} = \frac{\text{Nominal Wage}}{\text{Price Level}} \]

Last year:

• Nominal Wage = $10 per hour
• Price Level = 120

The real wage last year is:

\[ \text{Real Wage}_{\text{last year}} = \frac{10}{120} = \frac{1}{12} \]

This year:

• Nominal Wage = $11 per hour
• Price Level = ?

We set the real wage this year equal to the previous year's real wage, since you are unable to purchase the same amount of goods. Therefore,

\[ \text{Real Wage}_{\text{this year}} = \frac{11}{\text{Price Level}} \]

Setting the two real wages equal:

\[ \frac{11}{\text{Price Level}} = \frac{1}{12} \]

Now we can solve for the Price Level:

1. Cross-multiply:

\[ 11 \cdot 12 = 1 \cdot \text{Price Level} \]

2. This simplifies to:

\[ 132 = \text{Price Level} \]

Thus, the price level this year must be:

b. 132.