Suppose a worker signs a contract containing a 7 percent nominal wage increase with inflation expected to be 5 percent.Inflation turns out to be 10 percent,but the contract also contains 50 percent COLA protection.The worker's real wage under the contract
A)falls by 3.0 percent.
B)rises by 0.5 percent.
C)rises by 2.0 percent.
D)rises by 1.0 percent.
E)falls by 0.5 percent.

Question

Quizplus · Accepted Answer

The nominal wage increase is 7%, and with 50% COLA protection, the worker is protected against half of the unexpected inflation (5% actual inflation minus 5% expected inflation = 5% unexpected inflation). Thus, the worker receives an additional 2.5% (50% of 5%) increase, totaling a 9.5% nominal increase. With 10% inflation, the real wage falls by 0.5%.

Suppose a Worker Signs a Contract Containing a 7 Percent