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Chapter 5 - Index Number

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54 views15 pages

Chapter 5 - Index Number

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maizon.darus
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Chapter 5

Index Number

Limkokwing University of Creative Technology (LUCT)


• Index number is a statistical tool used to measure
changes in average price, quantity, value, air quality
and economic health of a country for a stated period of
time.

• Types of index numbers most commonly used are:


✓ price index
✓ quantity index
✓ quality index
✓ value index

• The price index measures the amount of changes in the


price of certain goods or service at a current period
compared to a certain period in the past (normally called
base period). The most popular price index is Consumer
Price Index (CPI).
• The Consumer Price Index measures the changes in the
price of consumer goods.

• It is very important because any increase in this index


reflects the increase in living expenses and the cost of
living of the people.

• Normally the comparison is on an annual basis.

• The government monitors closely this index and will take


action to stabilise the price if it goes up drastically.
• Index numbers can be divided into two categories:
✓ unweighted index
✓ weighted index

• Unweighted indices include:


➢ simple relative
➢ simple aggregate index
➢ simple average of relative index

• Weighted indices include:


➢ weighted aggregate index
➢ Laspeyres’ index
➢ Paasche’s index
Simple Relative

• A simple price relative is the ratio of the price of a


single commodity in a given period to its price in the
base period.

• If p0 and pt denote the commodity prices during the


base period and given period respectively, then the
price relative is given by
Pt
I=  100
P0

• In the same way, quantity relative is defined as


follows: q
I= t
 100
q0
Example

Prices of petrol in 2020 and 2021 were RM2.30 and


RM2.45 respectively. Taking year 2020 as the base
year, find the price relative index for 2021.
Solution
p0 = RM2.30 and pt = RM2.45
Price relatives
Pt 2.45
I =  100 =  100
P0 2.30

= 106.52

This means that in 2021, the price of petrol was 106.52


percent of the price in 2020, that is an increase of 6.52%.
Weighted Aggregate Index

In calculating simple average of relative index and simple aggregate


index, we assume all the commodities or items are of equal importance
and no weights are used. When the importance of each item needs to
be included, we will have to calculate weighted index.
a) Weighted Price Index:
I=
 wp t
100
 wp 0

b) Weighted Quantity Index:


I=
 wq t
100
 wq 0

c) Weighted Quality Index:


I=
 wy t
100
 wy 0
Example

For the data given below, calculate the weighted aggregate price
index for 2020 using 2014 as the base year as shown.

Type of food Weight Price (2014) Price (2020)


A 3 RM1.50 RM2.00
B 5 RM2.80 RM3.20
C 8 RM5.00 RM6.00
Solution:
Weighted aggregate price index for 2020 is:

I=
 wp t
100 =
3(2.00) + 5(3.20) + 8(6.00)
100
 wp 0 3(1.50) + 5(2.80) + 8(5.00)
70
= 100 = 119.66
58.5
Laspeyres’ Index and Paasche’s Index

These are two types of weighted index commonly used.

Laspeyres’ uses the base year quantities as the weights.


Paasche’s uses the current year quantities as the
weights.
σ 𝑝𝑡 𝑞0
Laspeyres’ price index = σ 𝑝0 𝑞0
× 100

σ 𝑝𝑡 𝑞𝑡
Paasche’s price index = σ 𝑝0 𝑞𝑡
× 100

σ 𝑞𝑡 𝑝0
Laspeyres’ quantity index = σ 𝑞0 𝑝0
× 100

σ 𝑞𝑡 𝑝𝑡
Paasche’s quantity index = σ 𝑞0 𝑝𝑡
× 100
Example
A company produces electrical components that require four
main raw materials. Table shows the price and quantity required
for each material.
Price per kg (RM) Quantity (kg)
Raw material
2018, 𝑝0 2021, 𝑝𝑡 2018, 𝑞0 2021, 𝑞𝑡
A 4.00 5.00 4,000 3,500
B 6.00 7.00 2,750 3,000
C 5.00 4.00 2,000 3,000
D 8.00 9.00 1,000 2,000

Using 2018 as the base year, calculate:


a) Laspeyres’ price index for year 2021.
b) Paasche’s price index for 2021.
Solution:
End of Chapter 5
☺

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