Laspeyre's price index number is a type of index number that measures the change in the price of a fixed basket of goods and services over time. The weights used in Laspeyre's index are based on the quantities of the goods and services purchased in a base year. These quantities are used as weights to calculate the average price change of the basket of goods and services. Let us discuss this in detail.

Definition of Laspeyre's price index number

Laspeyre's price index number is a type of index number that measures the change in the price of a fixed basket of goods and services over time. It is named after the French economist Etienne Laspeyre who first proposed this method.

Base year quantities as weights

In Laspeyre's price index number, the quantities of goods and services purchased in the base year are taken as weights. These quantities represent the consumption pattern of the consumers in the base year. The base year is the year for which the index number is calculated.

Calculation of Laspeyre's price index number

The Laspeyre's price index number is calculated as follows:

Laspeyre's price index number = (Cost of the fixed basket of goods and services in the current year / Cost of the fixed basket of goods and services in the base year) x 100

The cost of the fixed basket of goods and services in the current year is calculated by multiplying the current year prices with the quantities of goods and services in the base year. The same is done for the base year to calculate the cost of the fixed basket of goods and services in the base year.

Advantages of Laspeyre's price index number

- It is easy to calculate and understand.
- It uses a fixed basket of goods and services which makes it a better measure of inflation than other methods.
- It is widely used in practice.

Limitations of Laspeyre's price index number

- It assumes that the consumption pattern of the consumers in the base year is still valid. However, this may not be true as the consumption pattern may change over time.
- It does not take into account the substitution effect, i.e., consumers may switch to cheaper alternatives if the price of a good or service increases.
- It may not be accurate for goods and services whose quality changes over time.

Conclusion

Laspeyre's price index number is a widely used method to measure inflation. It uses the quantities of goods and services in the base year as weights to calculate the average price change of the fixed basket of goods and services. However, it has its limitations and should be used in conjunction with other methods to get a more accurate measure of inflation.