UNIT 10 INDEX NUMBERS

Structure
10.0 Objectives
10.1 Introduction
10.2 Steps in Construction of Index Numbers
10.2.1 Select~onof Base Period
10.2.2 Choice of a Suitable Average
10.2.3 Selection of Items and their Numbers
10.2.4 Collect~onof Data
10.3 Method of Construction of Index Number
10.3.1 Relative Methods
10.3.2 Aggregative Methods
10.3.3 Quantity or Volume Index Numbers
10.4 Merits of the Various Aggregative Measures
10.5 Tests for Index Numbers
10.5.1 The Time Reversal Test
10.5.2 The Factor Reversal Test
10.5.3 The Chain Index Number and Circular Test
10.6 Cost of Living Index Number (CLI) or
Consumer Price Index Number (CPI)
10.7 Worked Out Examples
10.8 Let Us Sum Up
, 10.9 Keywords
10.10 Some Useful Books
10.11 Answers or Hints to Check Your Progress Exercises

10.0 OBJECTIVES
After going through this Unit, you will be able to :
define index numbers; and
construct and calculate them.

10.1 INTRODUCTION
An "index" in the common sense of the word is an "indicatof' and no more than
that. "Index numbers" or "indices" are forms of the plural, but they all mean the
same thing.

An mdex number represents the general level of magnitude of the changes between
two (or more) periods of time or places, in a number of variables taken as a whole.
In this definition, the word ''variable" refers to numerical variables which can be
measured in quantity, such as the prices of commodities. For example, we may
like to&ompare the price level of an article between 1980 and 1990 or between
Index Numbers, Mumbai and Kolkata. Let us consider the yield of rice in 1985 and in 1990 as
Time Series and
Vital Statistics 50,000 and 60,000 tons respectively. The year 1985 is taken as base;for
camparison of yields, that is 1985 = 100. The corresponding figure for 1990 will
60,000
100 = 120.~his is a s~nglecommodityindex number in its simplest form,
being just a relative number. In practice, however, we deal usually with a number
of commodities for the construction of an index-.

Index numbers are ratios that are usually expressed as percentage in order to avoid
awkward decimals. Thus if one commodity costs 45 paise in 1970 and Rs. 1.50
in 1974 the ratio would be

If instead of this we express the ratio into a percentage

we say that the index is 333, based on 1970, which is 100.

10.2 STEPS IN CONSTRUCTION OF INDEX

NUMBERS
Many government and private agencies are engaged in computation of index
numbers or indices as they are often requhd for the purpose of forecastingbusiness
and economic conditions, providing general information, etc

It is not always the case that the comparison should be over time, but most common
types of index numbers measure changes over time. Similarly, index numbers may
be constructed for studying changes in any variable, such as intelligence, aptitude,
efficiency,production, etc.,but the time series of prices is perhaps most frequently
used. Our subsequent discussion on index numbers will therefore be made with
special reference to prices of commodities. The principles of construction are,
however, quite general in nature, and may thus be applied to other areas of interest.

There are various uses of price index numbers. The wholesaleprice index number
indicates the price changes talung place in wholesale markets. On the other hand,
the consumer price index number or the cost of living index number tells us
about the changes in the prices faced by an individual consumer. Its major
application is in the calculation of dearness allowance so that real wage does not
decrease; or in comparing the cost of living in, say, different regions. It is also used
to measure changes in purchasing power of money. The reciprocal of a general
price index is known aspurchasingpower of money with reference to the base
period. For example, if the price index number goes up to 150, it means that the
same amount of money will be able to purchase 1001150 = 0 67 times or 6796
of the volume of goods being purchased In the base period.
10.2.1 Selection of Base Period
Sincc index numbers measure relative changes, they are expressed with one
selc:tt.xl sitaatiotl ( r p 2 ~ o dplace
. ztc ) as 100 This is called the base or the
I , . I + ii , . t.ui~bersFor example. a date 1s first chosen
"~c,:~eu
and all ~h:ui,cs drc I;: :~surcd5nn; li, Th2 base may be one ,lay such as with lndcx
of retail prices. the avcrage of n year or the average of a period
While selecting a base period the following aspects should be taken into Index Numbers
consideration:
1) The base date must be "normal" in the sense that the data chosen are not
atlisted by any irregular or abnormal situationssuch as natural calamities, war,
etc. It is desirable to restrict comparisons to stable periods for achieving
accuracy.
2) It should not be too back-dated as the patterns of trade, imports or consumer
preferences may than* considerably if the time-span is too long. A ten to
twenty year interval is likely to be suitable for one base date, and after that
the index becomes more and more outdated. Greater accuracy is attained for
moderate short-run indices than for those covering greater span of time.
3) For indices dealing with economic data, the base period should have some
economic significance.
10.2.2 Choice of a Suitable Average
An index number is basically the result of averaging a series of data (e.g., price-
relatives of several commodities). There are, however, several ways of averaging
a series:mean (i.e., arithmetic mean), mode, median, geometric mean and harmonic
mean.

The question naturally arises as to which avaage to chose. The mode has the merit
of simplicity, but may be indehte. The median suffers h m the same limitations.
Moreover, neither of them takes into account the size of the items at each end
of a distribution. The harmonic mean has very little practical application to index
numbers. As a result, mode, median and harmonic mean are not generally used
in the calculation of index numbers. Thus, the arithmetic mean is most commonly
used. However, the geometric mean is sometimes used despite its slight difficulty
in calculation.
10.2.3 Selection of Items and their Numbers
The number and kinds of commodities to be included in the construction of an
index number depend on the particular problem to be dealt with, economy and
ease of calculations. Various practical considerations determine the number and
kinds of items to be taken into account. For a wholesale price index, the number
of commodities should be as large as possible. On the other hand, for an index
meant to serve as a predictor of price movement rather than an indicator of changes
over time, a much smaller nurnber of items may be adequate. Care should, however,
be taken to ensure that items chosen are not too few which make the index
unrepresentative of the general level. A fixed set of commodities need not also
be used for a very long period as some items lose their importance with the passage
of time and some new items gain in significance. In general, the commodities should
be sensitive and representative of the various elements m the pnce system.
10.2.4 Collection of Data
As prices often vary from market to market, they should be collected at regular
intervals fiom various representative markets. It is desirable to select shops which
are visited by a cross section of customers. The reliability of the index depends
greatly on the accuracy of the quotations given for each constituent item.
 111dex Numbers,
T i m e Series a n d 10.3 METHOD OF CONSTRUCTION OF INDEX
V i t a l Statistics .
NUMBER
Varioys methods of construction of index numbers are as follows:
1) Relative methods
I a) Simple average of relatives
b) Weighted.average of relatives
2) kggregative methods
a) Simple aggregative fonnula
b) Weighted aggregative formula
1) Laspeyres'index
ni Paasche's index
ii) Edgeworth-Marshell's index
iv) Fisher's ldeal index.
10.5.1 Relative Methods
If we record prices of a variety of commodities at a given date and at a later date
record the prices of similar items, the change in price can be simply expressed
as a percentage of the new compared with the old for each commodity. This
provides us with price relatives and if weights are available the next step will be
to multiply the relatives by the weights. Finally, an index number can be produced
if we add together the weighted relatives and calculate an average.

It is unrealistic to assume that the consumption of each commodity has been equal.
So most indices take account of the proportions of each item actually used. This
method of weighting shows the relative importance of each in the series.

Given k commodities with base year prices of

Pq,, Po2,...*.Pot

and cunent prices of

PHI,Pn29'."'Pnk
Pni
the price relative for the ith commodity will be w h e r e i = 1'2, ....., k and
poi
the subscript 0 refers to the base year and subsciipt n refers to the current year.
a) Simple average of relatives
The arithmetic mean of the price relative is given by

index = 100 C
i=1
("k)
k

For simplicity we can omit the subscript 'i' and write

b) Weighted average of relatives ~ n d e xNumbers

The most suitable weights to use are the value of each item, Gvhich is denoted by
w, for the i-th commodity. One may use the value of base year quantities sold
at the base year prices (w,, =p,q,,)or current year quantities sold at current prices
(wl,= pl,q,,)or any other value as weights. The weights can also be a set of
constant factors derived rationally.

A weighted arithmetic mean of price relatives using base year values as weights
is given by

CP"XW~
index = xl00 .....(10.2)
C wo
omitting suffix i for simplicity. It may be noted that base year weighting preserves
continuity, but loses "up-to-dateness" in the course of time.

Example 10.1: The table below presents the average fares per railway journey.
Using 1948 average = 100, calculations are made according to base year weights.

Class of No. of Fare (Rs.) Weights Prlce

ticket passenger relative
journeys in
1948 in
millions 1948 1969
(9) @I w, = P,9, P==p/ Rw"
p)xlOO

Full fare 23 12 60 276 500 138000

Excursions 25 .. 6 30 150 - 500 75000
Festival 20 4 15 80 375 30000
Season tickets 32 5 14 . 160 280 44800

Total 666 287800

Applying formula ( 1 0.2),we get

index for 1969 -

= 287800 - 432.13.
666

Using current year values (wn=p,q,) as weights, the index is given by

index =
CP-xw,
Po
x 100 ......(10.3)
> -
C zo,,
Example 10.2: The table below shows the average fares per railway journey.
Using 1948 average = 100, calculations are made according to current year
weights.
Index Numbers,
Time Series a n d
Class of No. of Fare (Rs.) Weights Price
Vital Statistics ticket ' passenger relative
journeys in
1948 in
millions 1948 1969
(4.) @.) (P,) w,, = P,4, P--(Pp./ l?wn
P,)X 100

Full fare 25 12 60 1500 500 7.50000

Expursions a6 6 30 780 500 390000
Festival 9 4 15 135 375 50630
Season tickets 27 5 14 378 280 105800

Applying formula (10.3), we get

1296430
index = -
2793
= 464.17

10.3.2 Aggregative Methods

In this method, the aggregate (sum-total) of the prices of all commodities in the
current or given year is expressed as a percentage of the same in the base year.
Thus, in the case of simple aggregative index, we have:

aggregate prices in the current year

Index number = x 100
aggregate prices in the base year

pn, + pn2 +..........

- pnk x loo
pol + po2 +..........+PO& ,
+

--- xLOO=-=I% x loo

C poi C PO
where the summation C extends over all selected commodities numbering k.
(i11)

On the other hand, in the case of weighted aggregative index we have,

pnlql + pn2q2+ .......... + Pnkqk ,100

General index = polql + po2q2+ ..........+ POk4k

or simply =-=pnq x 100

CP O ~

..
The weights used should be actual quantities bought or sold, and these are kept
unchanged until such time as the index requires to be revised.

There are mmy formulae for weighted aggregative index, but depending on the
w e of weights used, we discuss four indices which are commonly used.
a) Laspeyres' index lrdex Numbers

If we use base period quantities (9,) as the weights in the general weighted
aggregative index formuIa (10.5), we get what is known as Laspeyre's
formula (L).

It can be seen that this index has fixed base year quantity as weights (qJ and is
equivaIent to a arithmetic mean of price relatives given at formula (10.2). Thus,
we can also write (10.6) as

b) Paasche's index
If we use current year quantities (9,) as weights in the general aggregative index
formuIa (10.5), we get what is known as Paasche's fonnula (P).

where qn (actually q,,, q,, .... q,) are the quantities bought or sold in the current
period.
c) Fisher's Ideal Index
An index number obtained as geometric mean (i.e., square mt of the product)
of indices obtained by Laspeyres' and Paasche's formulae, satisfies certain
important properties (to be discussed la&), is known as fsher's ideal fohnula

d) Edgeworth-Marshall Index
If the mean of the base period and the current periodquantities is used as weight,
1-e.,
1
w = ?(go + q11, we get what is known as a compromise formula of Edgeworh-
Marshall index.
Index Numbers, Table 10.1:
T i m e Series e n d
V i t a l Statistics
Illustrative calculations of Laspeyres', Paasche's,
Edgeworth-Marshall's and Fisher's indices
Base Year Current Year
(1970) (1980)
Item Price Quantity Price Quantity
@J (40) Q'J (43 Po40 Pn40 P04n Pn4,

Total . 1102 1154 766 850

1154
1) Laspeyres' price index = a x 100 = -xl00=104.72=105
CP ~ B O 1102

Lpn4n 850
2) Paasche's price index = xlOO=-x100=110.97=111
P04n 766

3) Edgeworth-Marshall's index = xpnq0

, + -
x ~ n q nX I O O

4) Fisher's ideal index

= ,/E
2::; x 100

Note that for the same price change different formulae provide different values.
oreo over, when prices are increasing, Laspeyres' index gives the lowest value
while Paasche's index gives the highest value. Therefore, it is often said that
Laspeyres' index is an under-estimate while Paasche's index is an over-estimate
of true price change.
103.3 Quantity or volume Index Numbers
We can get a quantity or vglume index number, which measures and permits
comparison of quantities of g W , h m corresponding price index number formulae
simply by replacing p by q and q by p.
4,
1) Quantity relative = -X O0
40

2) Arithmetic Mean (A.M.) of quantity of relatives = 100

3) Weighted A.M. of quantity relative index:

"'

[go 11k
 Index Numbers

a) Base year weights: ' ( q n / q O ) X W O X ~(wherewo=poqJ

~
C wo
C(qn/qo)Xwn l OO (where w
b) Current year weights: = pnqn)
C wn
'9
4) Simple aggregative quantity index = x 100
C 40
=qnP, x l 0 0
5) Laspeyres' quantity index = -
C 906
ZqnP. xl00
6) Paasche's quantity index = -
C 404

7) Fisher's ideal index =

Zqn(po+ P.) xlOO

8) Edgeworth-Marshall's index =
C~O(PO+ Pn)

Check Your Progress 1

1) What do index numbers seek to measure?

...................................................................................................................
2) Discuss the various problems involved in construction of index numbers with
particular reference to price indices.

...................................................................................................................
3) The following are the prices of six different commodities for 1983 and 1984.
Compute the price index by (a) aggregative method, (b) average of price
relatives method by using arithmetic mean.
Commodities Price in 1983 (Rs.) Price in 1984 (Rs.)
A 40 50
B 50 60
C 20 30
D 50 70
E 80 80
F 100 110

I?
Index Numbers,
Time Series .rod
4) Calculate Fisher's Ideal Index Number h m the following group of items.
Vital Strtistles
Base Year Current Year
Item No. Price Quantity Price Quantity
(in Rs.) (in kg) (in Rs.) (in kg)

...................................................................................................................

5) Calculate Laspeyres' and Paasche's Index Numbers h m the following data:

Base Year Current Year

Item Quantity Price Quantity Price
per pound per pound
Bread 6.0 40 paise 7.0 30 paise
Meat 4.0 45 paise 5.0 50 paise
Tea 0.5 90 paise 1.5 40 paise

10.4 MERITS OF THE VARIOUS AGGREGATIVE

MEASURES
The ldifferent index numbers serve different purposes and, therefore, the
appropriateness of a particular index number depends on the purpose at hand.

The Laspeym' index calculation is simpler, since this uses the base period quantities
as weights which are not difficult to get and the denominator needs calculating only
once. But in this index a rise in prices tends to be overstated, since it does not
take into account corresponding falls in demand or changes in output. Indices such
as Paasche's, on the other hand, use current period quantities as weights which
are difficult to get and the weights need to be constructed afresh for every year.
Moreover, Paasche's index tends to understate the rise in prices because it uses
cunmt weights.
 The Laspeyres' index is probably more commonly used, since it is convenient to Index Numbers

employ fixed weights. But with the passage of time the weights are rendered out
of date. For example, in 1970 the number of TVs in Calcutta was nil. In 1990,
there are more TVs than refrigerators. The Paasche' s index uses the preferable
I
current weights, but since up-to-date information on quantity of goods produced
,I or consumed or marketed or distributed are not r d l y obtained, the Laspeyres'
i index has a great advantage.

11 10.5 TESTS FOR INDEX NUMBERS

A perfect index number, which measures the change in the level of a phenomenon
fiom one period to another, should satisfy certain tests. There are three major tests
of index numbers: (I) Time reversal test, (2) Factor reversal test, and (3) Circular
test.
10.5.1 The Time Reversal Test
According to this test, if we reverse the time subscripts (such as 0 and n) of a
price (or quantity) index the result should be the reciprocal of the original index.

Symbolically,
IonX In,= 1
where Ion= index number for period n with the base period 0
In,= index number for period 0 with the base period n.

1f frob 1975 to 1982 the price changes from Rs. 4 to Rs.16, the price in 1982
is 400 percent of the price in 1975, and the price in 1975 is 25 percent of the
price in 1982. The product of the two price relatives is 4 x 0.25 = 1. The test
is based on the analogy that the principle, which holds good far a single commodity,
should also be true for the index number as a whole.

There are five methods which do satis@the time reversal test. These are:
1) Simple geometric mean of price relatives
2) Aggregative indices with fixed weights
I
3) Edgeworth-Marshall formula
4) Weighted geometric mean of price relatives if fixed weights are used
5) Fisher's ideal index

Fisher's ideal index F =

If time subscripts are reversed,

Since F x F' = 1, the test is satisfied.

I
I
10.5.2 The Factor Reversal Test

I With the usual notations, a "value index" formula is given by

Index Numbers. Now, for example, Laspeyres' index for prices and quantities r i given
~ respectively
Time Series and
Vital Statistics by

The factor reversal test desires that %.Iq = Iv

But for Laspeyres' index

I
1

On the other hand, Fisher's ideal index satisfies this test, as shown below. I

C P , ~C~Q ~ PX-OZqnpn
x-X-
Cpoqn CQOPO Zqopn

To understand this principle firher, we take the following example.

If the price and quantity per unit of an item changed in 1990, as compared to
1970, from Rs. 16 to Rs. 32 and h m 100 units to 200 units respectively, then
the price and quantity in 1990 would both be 200% or 2.00 times the price and
quantity in 1970. The values (product of price and quantity) would be Rs. 1600
in 1970 and Rs.6400 in 1990, so that the value ratio is 640011600 = 4.00. Thus,
we verify that 2.00 ' 2.00 = 4.00, that is, the product of price ratio and quantity
ratio is equal to the value ratio,.

Only the Fisher's ideal index satisfies this test.

Example 10.3: We show with the following data that the Fisher's ideal index
satisfies the factor reversal test:
 Index Numbers
Price (Rs.) No. of units
pogo pnqo Po% pnqn
Item 1983 1989 1983 1989
@d, @,I (qJ GI,,)
I 6 10 50 56 300 500 336 560
11 2 2 100 120 200 200 240 240
III 4 6 60 60 240 360 240 360
IV 10 12 30 24 300 360 240 288
V 8 12 40 36 320 480 288 432
Total 1360 1900 1344 1880

Price Ratio: $ =

Quantity Ratio: Ip =

Cpnqn- 1880
= --- -
'
Value Ratio: IY -
C p o q 0 1360

1880
--
1360
= I, which shows that the test is satisfied.

10.5.3 Chain Index Number and Circular Test

Two types of base periods are used for the construction of index numbers, namely,
(a) fixed base, (b) chain base. Most commonly used indices use fixed base method.
This method cannot take into account any changes in price or quantity in any other
year. it fails to include new commodities gaining importance at a later date or
exclude commo&ties losing significance in course of time. These problems can be
overcome by chain index numbers.

Using a suitable index number formula (say, Laspeyres' index), link indices, defined
as follows, are first calculated: Link index = Index number with previous period
as base. The chain index is obtained by multiplying link indices progressively. Thus,
the chain index number Ion for period n Gith base period 0 is given by

............................................
I, = I , , x I , , x ..... X I , , . X I . ..
lndex Numbers, Example 10.4: The calculation of chain index numbers is illustrated with reference
Time Series and
V i t a l Statistics to the following data:
Year Link index Chain index (Base 1970 = 100)-

1972 I,, = 120

Thus, the chain index numbers for the years 1971 to 1973 with 1970 as the base
are 80, 96 and 72 respectiv.ely.
Circular Test: The circular test is an extension of time reversal test over a number
of years. It states that the chain index for the year 1973, calculated above, starting
fiom the base year 1970 will be same as the index number directly calculated with
fixed base period of 1970. In symbols,
1
I,, X I,, X..... X = 1. (Notice that Ion= -)
, ) n x In,
Lo
Considering an aggregate index with fixed weights

we can illustrate the test as follows:

With base period 0, we can trace the above formula from 1 to 3 years:
X P , X-x-
~ Z P Z ~Zp39 x-X P O ~= 1
Z P O ~Z P I ~Zp2q X P &
The formulae satisfjring the requirements of circular test are:
1) Simple aggregative index
2) Simple geometric mean of relatives
3) Weighted aggregative index (such as Laspeyres' index with constant weights)
4) Weighted geometric mean of relatives with constant weights.

Fisher's ideal index does not satisfy this test. It has been proved that no index
satisfies both the factor reversal and the circular tests.
Check Your Progress 2

1) Compute the chain index number with 1980 prices as base fiom the following
table giving the average wholesale prices of commodities A, B and C for years
1980 - 84

Commodity Average whole sale Price (in Rs.)

 Index Numbers

2) Construct Fisher's Ideal Index number fiom the following data and show that
it satisfies Factor and Time Reversal Tests.

Base Year Current Year

Commodities Price Expenditure Price Expenditure
per unit (Rs*) per unit (Rs*)
A 2 40 5 75
B 4 16 8 40
C 1 10 2 24
D 5 25 10 60

10.6 COST OF LIVING INDEX NUMBER (CLI) OR

CONSUMER PRICE INDEX NUMBER (CPI)
This is an index of changes in the prices of goods and services commonly consumed
by a homogeneous group of people, such as families of industrial workers. The
major items of consumption that are considered for the construction of CLI are:
1) Food
2) Fuel and Light
3) Clothing
4) House rent
5) Miscellaneous

The common method for obtaining the consumption basket is to conduct a family
living survey among the population group for which the index is to be constructed.
Prices of selected items are also collected from various retail markets used by
consumers in question. It may be noted that each of the above broad groups
contains several sub groups. Thus, 'food' includes cereals, pulses, oils, meat, fish,
egg, spices, vegetables, fruits, non-alcoholic beverages, etc. 'Miscellaneous'
includes such items as medical care, education, transport, recreation, gifts and many
Index Numbers, others. When more than one price quotation is collected for a single commodity,
Time Series and
Vital Statistics a simple average is taken. Index number is constructed for each of the five groups
using weigkieu average of the price group; the weights used are proportional to
the expsn&ture on the consumed item by an average family. Next, the overall index
(CLI) is computed as an weighted average of group indices, the weights being
again the proportional expenditure on differ& groups (e.g. 50 per cent on food).

Using Laspeyres' formula

Cost of living Index: 1=

Cw

PO~O
where = -
C poqo ,is the weight of a group index.
The CLI or consumer price index (CPI) numbers have significant practical
implications and extensive public use. Its use as a wage regulator is the most
important. The dearness allowance of the employees are primarily determined by
this index. When wages or incomes are divided by corresponding CLI, the effect
of rise or fall of prices is eliminated. This is known as the process of deflation,
which is used to find 'real wages' or 'real income'. As mentioned earlier the
reciprocal of CLI measures the purchasing power of money.

Example 10.5: Construction of an Index for food

Item Prices Weights

p n Po p = (Pn x p0) w Pw
x 100
Rice 50 40 125.0 30 3750.0
Wheat 45 30 150.0 20 3000.0
Pulses 60 40 150.0 10 1500.0
sugar 40 20 200.0 5 1000.0
Oil 75 60 125.0 15 1875.0
Potato 60 50 120.0 15 1800.0
Fish 200 150 133.3 5 666.5
Total 100 13591.5

-
Index (food) = X W X ( P . +PO)xloo

Example 10.6: Construction of a Final Cost of Living Index Number.

 Index Numbers
Item Weight Index Wt, X Index
(Percentage
- Expenditure)
Food 45 130 5850
Clothing 15 140 2100
Housing 20 170 3400
Fuel 5 110 550
Misc. 15 125 1875
Total 100 13775

Check Your Progress 3

1) Calculate a number which will indicate the percentage change in volume of
traffic from October 1979 to October 1980, when account is taken of the
relative values of the different types of traffic.

Type of Tons ('000) Receipts

traffic (Rs.'000)
Oct. 1979 Oct. 1980 Oct. 1979
Merchandise 1246 1206 776
Minds 1125 98 1 252
Fuel 4794 4229 562

2) Compute Paasche's price index number for 1980 with 1975 as basc from
the following data:

Commodity Unit Price (Rs.) per unit Quantities sold

 Index Numbers,
-

Time Series and

3) From the following data, compute Laspeyres' price index number for 1980
, Vital Statistics with 1978 as base:

Item Price (Rs.) Total Value (Rs.)

1978 1980 1978

4) Calculate Marshall-Edgeworth index number f?om the following data:

Commodity 1970 1977

Price Quantity Price - Quantity
Rice 9.3 100 4.5 90
Wheat 6.4 11 3.7 10
Jowar 5.1 5 2.7 3

10.7 WORKED OUT EXAMPLES -.

In this section, we shall provide worked out examples so as to further farniliarise

you with the topic.

Example 10.7: Construction of Price Index

Item Unit Price per unit (Rs.)

1970 @J 1980 (p,) @,, + po) X 100
-
Rice quintal 100.00 220.00 220
Wheat kg. 1.50 2.40 160
Fish kn. 15.00 28.00 187
 -Bread lb. 0.60 1.35 225 I n d e x Numbers

Milk lik 2.50 4.00 160

Total

a) Aggregative method
Index number for 1980 (base 1970 = 100)

~ v e r a ~ gprice
k per unit in 1980
xlOO
Average price per unit in 1970

b) Method of price relative

Index number for 1980 (base 1970 = 100)

Example 10.8: Calculate price index numbers fiom the following information, using
(a) weighted aggregative formula, and (b) weighted arithmetic mean of price
relatives:

Item Unit Price (Rs.) per unit

Base Year Current Year .Weight
A quintal 85 115 19
B Kg. 15 15 25
C dozen 45 61 40

Calculation for Index numbers

Item p, P, w Pow PnW I = bn pol

+ Iw
x 100

Total 125 5247 7608 17804.5

Index Numbers,
Time Series and
a) Weighted aggregative index =
c P,w xlOO=- 7608 x l 0 0 = 145.0
Vital Statistics
c POW 5247

b) Weighted arithmetic mean of price relatives

- C i w 17804.5 = 142.4
--=
Cw 125

Example 10.9: Given below are the data on prices of some consumer goods and
the weights attached to the various commodities. Calculate price index numbers
for the year 1971 (base 1970 = 1OO), using (a) simple average, and (b) weighted
average of price relatives.

Price (Rs.)
Commodities Unit 1970 1971 Weights
Wheat Kg. 0.50 0.75 2
Milk Litre 0.60 0.75 5
Q3 Dozen 2.00 2.40 4 ,
Sugar Kg. 1.80 2.10 8
Shoes Pair 8.00 10.00 1

Calculations for price relative index.

-
Commodities Unit PO P, I = @ , + P ~ w Zw
x 100 -
Wheat Kg. 0.50 0.75 150 2 300
Milk Litre 0.60 0.75 125 5 625
% Dozen 2.00 2.40 120 4 480
Sugar Kg. 1.80 2.10 117 8 936 1
Shoes . Pair 8.00 10.00 . 125 1 125
-
(
Total - - - 637 20 2466
7

Z ( P / ) ~ ~ O O 637
a) Simple average of price relative index =
Po -
- -
= 127.4
k 5
C I w 2466
b) Weighted average of price relative index = -= -- - 123.3
cw 20

Example 10.10: On the basis of the following data, calculate the wholesale price
index-ber for the five groups combined.

Group Weight Index no. for week ending

27.9.69
( ~ a s e.1952-53
: = 100)

Food . 50 24.1
Liquor and tobacco 2
Fuel, power, light and lubricants 3
 Industrial raw materials 16 256 Index Numbers

Manufactured commodities 29 179

-

2 Iw
We compute: General index = -
2w
where I = Group index, and w = Group weight

Group Weight (w) Group Index (0 Iw

Food 50 24 1 12050
Liquor and tobacco 2 22 1 442
Fuel, power, light and lubricants 3 204 612
I~ldustrialraw materials 16 256 4096
Manufactured commodities 29 179 5191

Total , 100 22391

22391
Index number of wholesale prices = -100
- 223.91

Example 10.11 :Annual production (in million tons) of four commodities are given
below:

Commodity Production Weight

Calculate quantity index numbers for the 2 years 1954 and 1955 with 1950 as
base year, using (a) simple arithmetic mean, and (b) weighted arithmetic mean of
the relatives.

Quantity relatives for 1954 with base year 1950(= 100)

42
Commodity B: -x 100 = 175
24
i:*dex Numbers, Quantity relatives for 1955 with 1950 = 100
Time Series and
Vital Statistics

68
Commodity C: -x 100 = 136
50

Commodity Quantity relatives (l) Weight Iw

(w)
1954 1955 1954 1954

D 140 130.0 17 2380 2210

' Total 584 588.5 80 12003 12303

a) Simple arithmetic mean of quantity relatives

(where k = number of commodities)

584
Indkx number for 1954 = -= 146
4
588.5
Index number for 1955 = -= 147
4
X lw
,b) Weighted arithmetic mean of quantity relatives -
Cw
12002
Index number for 1954 = -- 150
80
= 12303
Index number for 1955 = = 154
80

Example 10.12: From the following price (p) and quantity (y) data, compute
Fisher's ideal index number.
-- ----
Commodity 1970 (Base Year) 1978 (Current Year) -
Price Quantity Price Quantity
Calculations for Fisher's ideal index: Index Numbers

Total 378 470 384 476

470
Laspeyres' price index = -
x p n q Ox 100 = -x 100 = 124.34 = 124
~ P ~ B O 378
476
Paasche's price index E p n 4 nxlOO=-xlOO=
=- 123.96=124
E poqn 384 .

Fisher's ideal index = Jz

= 6024x124)= 124.

10.8 LET US SUM UP

In this Unit you have been introduced to the concepts and methods involved in
the construction of Index Numbers. You have been shown how to use the
Laspeyres', Paasche's and Fisher's formulae for calculating price as well as quantity
indices. You also know now how to measure changes in consumer price or cost
of living.

10.9 KEY WORDS

Base Year : Preferably a normil year, in terms of variable concerned, base
year index is invariably taken as 100. Current year index is
expressed as a percentage of base year index.
Chain Index : Current year's index is expressed as a percentage of previous
year's index.
Index Number : A pure number, expressed as a percentage to base year value.
Index Number measures the relative changes over time in the
variable concerned (price, quantity sales or say, exports) of
a group of commodities. This is a special type of weighted
average of prices (or any other attribute) of the commodities
or items included.
Price Relative : In the construction of a an index number price relative for a
commodity is the ratio of the current year price to base year
price of that commod~ty.
Quantity Index
Number : The variable considered is the quantity of commodities.

10.10 SOME USEFUL BOOKS

Nagar, A.L. and R.K. Das, 1989: Basic Statatics, Oxford University Press, Delhi.
Goon, A.M., M.K. Gupta and B. Dasgupta, 1987: Basic Siatzstzcs, The World
Press Pvt. Ltd., Calcutta. 27
'Index Numbers,
Time Series and 10.11 ANSWERS AND HINTS TO CHECK YOUR
Vital Statistics
PROGRESS EXERCISES
Check Your Progress 1

1) and (2): Do it yourself.

3) Simple Aggregative Index Nurnber = 117.14
Average of Price Relative Method =122.9
4) 84.2
5) Laspeyres' Index Number = 86.02
Paas@e's Index Number = 81.25
Check Your Progress 2
1) ,108.33, 135.41, 160.23,165.56
2) Do it yourself.
Check Your Progress 3
1) We find quantity for Oct. 1980 with Oct. 1979 as base. The required index
may be obtained as the weighted arithmetic mean of quantity relatives, using
the receipts in 1979 as weights.

Type of 40 4, Weight Quantity (4) x (5)

T d c (w) Relative
(4, '4 3 X 100
(1 (2) (3) (4) (5) (6)
Merchandise 1246 1206 776 97 75272
Minds 1125 98 1 252 87 2 1924
Fuel 4794 4229 562 88 49456
Total - - 1590 * - 146652

Quantity index =
C(qn 1 go)x 100 x w -- 146652 = 92
Cw 1590

2) Calculation for Paasche's price index

C 35 40 50 70 2450 2800
Total 10730 12500

Zp.9, xlOO=- 12500 xl00=116

Paasche's price index = -
zPO% 10730
3) We are given the base price @), current price bn)and value in the base year
(pogo).To find base year quantity (go), we can use the relation
 Index Numbers

I
Using po,p,, and go, we can find Laspeyres' index as

Calculation for Laspeyres' price index

Item PO P. Pogo = Pogo. Pi p.40

A 12.50 14.00 112.50 9 126.00
B 10.50 12.00 126.00 42 144.00
C 15.00 14.00 105.OO 7 98.00
D 9.40 1 1.20 47.00 5 56.00
Total - 390.50 - 424.00

C ~ n 4 xlOO=-
Laspeyres' price index = - 0 42.00x 100 = 109.
Po90 390.0

O g n )xloo
4) Marshall-Edgeworth index = ~ P . ( Y +
Cpo(90 + 9 , )

Let us take 1970 as base and 1977 as current year.

Rice 9.3 100 4.5 90 930.0 837.0 450;O- 405.0

Wheat . 6.4 11 3.7 10 70.4 64.0 40.7 37.0
Jowar 5.1 5 2.7 3 25.5 15.3 13.5 8.1
Total 1025.9 916.3 504.2 450.1

504.2+ 450.1
Required index = xl00=49.1.
1025.9+ 916.3