Page 510 - The Principle of Economics

522 PART EIGHT THE DATA OF MACROECONOMICS
Table 23-2
THE MOST POPULAR MOVIES OF ALL TIME, INFLATION ADJUSTED
FILM
YEAR OF
RELEASE
TOTAL DOMESTIC GROSS
(IN MILLIONS OF 1999 DOLLARS)
1. Gone with the Wind 1939 2. Star Wars 1977 3. The Sound of Music 1965 4. Titanic 1997 5. E.T. The Extra-Terrestrial 1982 6. The Ten Commandments 1956 7. Jaws 1975 8. Doctor Zhivago 1965 9. The Jungle Book 1967
10. Snow White and the Seven Dwarfs 1937
SOURCE: The Movie Times, online Web site (www.the-movie-times.com).
$920
798
638
601
601
587
574
543
485
476
For example, many long-term contracts between firms and unions include partial or complete indexation of the wage to the consumer price index. Such a provision is called a cost-of-living allowance, or COLA. A COLA automatically raises the wage when the consumer price index rises.
Indexation is also a feature of many laws. Social Security benefits, for example, are adjusted every year to compensate the elderly for increases in prices. The brackets of the federal income tax—the income levels at which the tax rates change—are also indexed for inflation. There are, however, many ways in which the tax system is not indexed for inflation, even when perhaps it should be. We discuss these issues more fully when we discuss the costs of inflation later in this book.
REAL AND NOMINAL INTEREST RATES
Correcting economic variables for the effects of inflation is particularly important, and somewhat tricky, when we look at data on interest rates. When you deposit your savings in a bank account, you will earn interest on your deposit. Converse- ly, when you borrow from a bank to pay your tuition, you will pay interest on your student loan. Interest represents a payment in the future for a transfer of money in the past. As a result, interest rates always involve comparing amounts of money at different points in time. To fully understand interest rates, we need to know how to correct for the effects of inflation.
Let’s consider an example. Suppose that Sally Saver deposits $1,000 in a bank account that pays an annual interest rate of 10 percent. After a year passes, Sally has accumulated $100 in interest. Sally then withdraws her $1,100. Is Sally $100 richer than she was when she made the deposit a year earlier?
The answer depends on what we mean by “richer.” Sally does have $100 more than she had before. In other words, the number of dollars has risen by 10 percent. But if prices have risen at the same time, each dollar now buys less than it did a year ago. Thus, her purchasing power has not risen by 10 percent. If the inflation