Compute the changes in nominal and real salary with a change in the price level.
Pam, having recently graduated from college, is looking to work for 2 years before she enters graduate school. She has received 2 job offers with the following salary structures:
JOB A: Pays $30,000 in 2003 and $40,000 in 2004
JOB B: Pays $30,000 in 2003 and 2004's salary will be equal to $30,000 plus a cost of living
adjustment equal to the inflation rate.
Suppose the increase in the price level (i.e. the inflation rate) is 35% from 2003 to 2004.
Suppose Pam has no preference for either job, other than the highest salary.
a) What is the percentage increase in nominal salary from 2003 to 2004 for JOB A?
b) What is the % increase in real salary from 2003 to 2004 for JOB A?
c) What is the % increase in real salary from 2003 to 2004 for JOB B?
d) Which job should Pam take? Briefly explain.
e) Suppose the CPI for 2003 is 200, while the CPI for 2004 is 270. Deflate the 2004 salary for JOB A to determine how much the salary is worth in terms of 2003 dollars (you may need to round to the nearest cent)?
f) How much is the 2004 salary for JOB B worth (in 2003 dollars)? (Show you work)
g) Suppose Pam only has offer for JOB B. The employer plans to increase Pam's salary only in order to keep up with inflation, but does not inform Pam of this plan. So with inflation expected to be 35%, Pam gets a 35% nominal raise. Explain why, when during the year Pam sees prices rising, she will blame inflation for the decrease in her purchasing power. Is inflation really costing her any purchasing power?