Learning Objectives

• Understand the meaning of the term index number.
• Become familiar with the use of some widely used index numbers.
• Calculate an index number.
• Appreciate the limitations of index numbers.

Chapter 7: Index Numbers

1. Introduction

• Understanding summary measures of change in related variables.
• Example: Price changes of commodities.

2. What is an Index Number

• A statistical device for measuring changes in related variables.
• Measures average change over two situations.
• Expressed in percentage terms with a base period (value = 100).

3. Construction of an Index Number

Methods

• Aggregative Method:
  • Formula:
    $P_{ol} = \frac{\Sigma P}{\Sigma P_0} \times 100$
• Weighted Aggregative Method:
  • Formula:
    $P_{ol} = \frac{\Sigma P q_0}{\Sigma P_0 q_0} \times 100$

Examples

• Simple Aggregative Price Index:
  • Example Calculation:
    • Current Prices: 4, 6, 5, 3
    • Base Prices: 2, 5, 4, 2
    • Result: Price has risen by 38.5%.

4. Some Important Index Numbers

• Consumer Price Index (CPI): Measures average change in retail prices.
  • Example: CPI for industrial workers (2001=100) is 277 in December 2014.
• Wholesale Price Index (WPI): Used for measuring inflation.
• Index of Industrial Production (IIP): Measures production changes in the industrial sector.

5. Issues in the Construction of an Index Number

• Purpose clarity: Value vs. volume index.
• Data reliability: Use reliable sources.
• Base year selection: Should be normal and relevant.

6. Index Number in Economics

• Used in policy making (e.g., wage negotiation, inflation measurement).
• Importance of different CPIs for various consumer categories.

7. Conclusion

• Index numbers summarize changes in a large number of items.
• Importance in economic policy and interpretation.