Question

Suppose in 2007 the United States Congress passes a minimum wage law that increases the minimum wage (the lowest legal wage) to $7.25 per hour and has a provision that increases the minimum wage at the beginning of each year based on the CPI for the previous year.

a) If the CPI increases 3 percent for each of the next four years (so that the inflation rate is 3 percent for each of the next four years), find the minimum wage for 2008, 2009, and 2010.

b) If the CPI overstates inflation by 1 percentage point, calculate a revised minimum wage for each year 2008 to 2010 removing the CPI bias.

c) How much does the CPI bias affect the minimum wage in 2008, 2009, and 2010?