Key Notes: Index Numbers | Economics for Grade 11 PDF Download

What is an Index Number?

Construction of Index Number

• The Aggregative Method- The formula for a simple aggregative price index isP₀₁= ΣP₁/ΣP₀ x 100, where P1 and P0 indicate the price of the commodity in the current period and base period respectively. The formula for a weighted aggregative price index is P₀₁= ΣP₁ Q₀/ΣP₀Q₀ X 100
• Averaging relatives- The method of averaging relatives takes the average of these relatives when there are many commodities. The price index number using price relatives is defined as P₀₁= 1/n x Σ P₁/P₀ x 100, where P1 and Po indicate the price of the ith commodity in the current period and base period respectively. The ratio (P1 /P0 ) × 100 is also referred to as the price relative of the commodity. n stands for the number of commodities. The weighted index of price relatives is the weighted arithmetic mean of price relatives defined as P₀₁= Σ^N_i=1 W_i(P_1i/P_0i) x 100/ Σ^N_i=1 W_i, where W = Weight

Some Important Index Numbers

• Consumer Price Index- The consumer price index (CPI), also known as the cost of living index, measures the average change in retail prices.
  Consumer Price Index Number- Government agencies in India prepare a large number of consumer price index numbers.Examples: Consumer Price Index Numbers for Industrial Workers with base 2001=100. The value of Index in May 2017 was 278. All-India Consumer Price Index Numbers for Agricultural Labourers with base 1986- 87=100. The value of Index in May 2017 was 872.
• Wholesale Price Index- The Wholesale price index number indicates the change in the general price level. Unlike the CPI, it does not have any reference consumer category.
• Index of industrial production- This is an index that tries to measure quantities. manufactured. While the price indices were essentially weighted averages of price relatives, the index of industrial production is a weighted arithmetic mean of quantity relatives with weights being allotted to various items in proportion to value added by manufacture in the base year by using Laspeyre’s formula: IIP₀₁= (Σ^N_i=1 Q_1i W_i)/Σ^N_i=1 W_i, where IIP01 is the index, qi1 is the quantity relative for year 1 with year 0 as a base for good I, Wi is the weight allotted to the good i. There are n goods in the production index.
• Human Development Index- The Human Development Index (HDI) measures average achievement in key dimensions of human development: a long and healthy life, being knowledgeable and having a decent standard of living.
  Sensex- Sensex is the short form of Bombay Stock Exchange Sensitive Index with 1978–79 as its base. It is the benchmark index for the Indian stock market. It consists of 30 stocks which represent 13 sectors of the economy and the companies listed are leaders in their respective industries. If the Sensex rises, it indicates that the market is doing well and investors expect better earnings from companies.

Issues in the construction of an index number

• You need to be clear about the purpose of the index. Calculation of a volume index will be inappropriate when one needs a value index.
• The items to be included in any index have to be selected carefully to be as representative as possible.
• Every index should have a base year.
• Another issue is the choice of the formula, which depends on the nature of the question to be studied.
• Besides, there are many sources of data with different degrees of reliability. Data of poor reliability will give misleading results. Hence, due care should be taken in the collection of data.

Index Number in Economics

• Consumer index number (CPI) or cost of living index numbers are helpful in wage negotiation, formulation of income policy, price policy, rent control, taxation, and general economic policy formulation.
• The wholesale price index (WPI) is used to eliminate the effect of changes in prices on aggregates, such as national income, capital formation, etc.
• The WPI is widely used to measure the rate of inflation. Inflation is a general and continuing increase in prices. If inflation becomes sufficiently large, money may lose its traditional function as a medium of exchange and as a unit of account.
• CPI is used in calculating the purchasing power of money and real wage.
• Index of industrial production gives us a quantitative figure about the change in production in the industrial sector.
• Agricultural production index provides us with a ready reckoner of the performance of the agricultural sector.
• Sensex is a useful guide for investors in the stock market. If the Sensex is rising, investors are optimistic about the future performance of the economy. It is an appropriate time for investment.

Where to find these index numbers?