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INDEX NUMBER
An index number is a measure of relative change commodity or a group of commodities at current
in the value added by a variable or a group of related period as compared lo some previous period known
variables over lime or space. Many economists and as base year.
statisticians have defined index numbers in their (ii) Quantity index numbers: This is another
own way. Some of them are quoted below: important measure of index number which
Irving Fisher: The purpose of index number is that measures the changes occurring in the quantity of
it shall fairly represent, so far as one single figure goods demanded consumed, produced, imported or
can, the general trend of the many diverging ratios exported, etc.
from which it is calculated. (iii) Consumer price index: In common parlance it
John I. Griffin: An index number is a quantity which is also known as cost of living index, though the two
by reference to a base period, shows by its are not exactly the same. Consumer price index is
variations, the changes in the magnitude over a a special kind which is constructed for the prices of
period of time. only the essential items. Such a list of items is
In general, index numbers are used to measure known as basket.
changes over time in magnitudes which are not (iv) Value index: This compares the total value of
capable of direct measurement. certain item(s) at a point of time as compared to a
Wessel, Willet and Simone: An index number is a base period. We know that the total value is the
special type of an average that provides a product of the price and quantity. This type of index
measurement of relative change from time to time is used in sales of a company, foreign trade, etc.
or place to place. (v) Diffusion index: It reveals the changes in a
Clark and Schkade: An index number is a group of time series indicating the turning point of
percentage relative that compares economic an economic cycle.
measure, in a given period with those some The notations commonly used in index number
measures at a fixed time period in the past. formulae
A.M. Tuttle: An index number is a single ratio Ans. Commonly we use the following notations:
(usually in percentages) which measures the pji- the price of the ith commodity (item) in the jth
combined (i.e., averaged) change of several variables year.
between two different times, places or situations. qji - the quantity of the ith commodity (item) in jth
L.R. Conor: In its simplest form it represents a year.
special case of an average, generally a weighted vji- the value of the ith commodity (item) in the jth
average, compiled from a sample of items judged to year which is equal lo pji × qji.
be representative of the whole. In general j= 0, 1,2.....k and i = 1,2....n (the number
A.L. Dowley: Index numbers are used to measure of commodities under consideration).
the changes in some quantity which we cannot For a base year, j=0 and current year, j=1
observe directly. P0l - The price index of the current period I as
M.M. Dlair: Index numbers are the signs and guide compared to based period 0.
posts along the business highway that indicate to Q0l - The quantity index for the current period I as
the businessman how he should drive or manage compared lo base period 0.
his affairs. The unweighted price index number
TYPES OF INDEX NUMBERS The unweighted price index number for n items for
Index numbers are constructed in economic the current year I and base year 0 is given by the
activity covering a wide range of aspects. Different formula,
kinds of usually constructed index numbers are:
(i) Price index numbers: These are the mostly p 1i

used index numbers which measure the general P01  i

 100
change in the retail or wholesale prices of a i
p 91

for i = 1,2,..., n
The unweighted quantity index
1  1i 01 p
 p q q1i 
An unweighted quantity index for n com moditics 1 1i
DB
P01  (L  P)   i  i   100

can be computed by the formula, 2 2   p0i q 0i p q
0i 1i 
 i i 
1
Q01   100
 q 01 for i = 1.2.....n
i Drobish-Bowley pleaded that the arithmetic
for i=1, 2, ....., n. mean of L and P is good because the over-estimate
Laspeyre's price and quantity index numbers of L is compensated by the underestimate of P.
Laspeyre’s index is also known as base year Geometric cross formula
method index. In Laspeyre's price index, the base The geometric cross formula for price index is
year quantities (consumption, demand, production also known as Walsh price index. He gave this
etc.. corresponding to the prices of the items are formula in 1901.
taken as weights. Laspeyre's, a French economist
gave the following aggregative price index L01 in p 1i q 0i p 1i q1i
1871. For n items. Laspeyre's formula for price index PW
 LP  i
i
 100
p p
01
0i q 0i 0i q1i
number is, i i

p 1i q 01 for i = I, 2.....n.
L 01  i
 100
p
i
01 q 01
Walsh formula is one of the most accepted
formula. In 1920, Irving Fisher called it an ideal
for i= I, 2.....n. formula for index numbers. Still it is not universal
Similarly for quantity index number, base year and all purpose index formula.
prices are taken as weights. Laspeyre’s formula for Arithmetically crossed-weight formula
quantity index number is.
The arithmetically crossed weight formula is,
q p0i
Lq01  i
1i
 100 p 1i (q 0i  q1i )
q 0i p 0i
ME
P01  i
 100
i p
i
0i (q 0i  q1i )

for i = 1, 2, ...., n
for i = 1, 2....n
Paasche’s price and quantity index numbers
Geometrically crossed-weight formula
Paasche's index is also known as given (current)
year method index. Paasche, a German statistician In the Marshall-Edgeworth price index formula.
expounded the index number formula in 1874 with one may even use the geometric mean of the
the plea that the weights should be of the given year. quantities of the base and current years as weights.
It is denoted by P01. Hence the price index formula is,
Paasche's price index formula is.
p 1i q 0i q1i
  100
p
ME i
q1i P01
Pp
 i
1i
 100
p 0i q 0i q1i
p
01 i
0i q1i
i
for i = 1, 2, ...., n
for i = 1.2.....n Average of price relatives
Similarly, Paasche’s quantity index number is. The average of the price indices calculated for
each individual commodity at a given year ‘T’
q 1i p1i relative to a base year ‘O’ is known as the average
q
P01  i
 100 of the price relatives. Usually the average is either
q
i
0i p1i
arithmetic mean or geometric mean. Price index
based on arithmetic mean is,
for i = 1, 2, ...., n
1 n  p1i 
where n is the number of items selected for index
numbers. Paasche's indices possess a downward
P01  
n i 1  p0i
  100

bias. Price index based on geometric mean is,
The Drobish-Bowley price formula
1/n
The Drobish-Bowley price index formula ls simply  n p 
the arithmetic mean of the Laspeyre’s and P01    1i   100
 i 1  p0i  
Paasche's formula which was expounded in 1901.
F.Y Edgeworth pleaded for the use of harmonic
mean as well. But it is seldom used.
The formulae for weighted average of price should be kept in mind that it measures the
relatives changes in the quantum of production and not in
Commonly, the indices are obtained through values. The data for IIP includes the production of
weighted price relatives. If w1, w2 .... wn arc the private and public sectors.
weights for n items price relatives, the formula for The formula for computing IIP for the current year
price index based on arithmetic mean of weighted I as compared to a base year 0 is,
price relatives is,
 q1i 
1 p    wi
P01  i w i  p1i   100   i a 0i 
 100
 wi
i
 0i 
IIP01
 wi
i

for i = 1,2,.....n
where i varies over all items of industrial
If wi is taken as the base year value, i.e.,wi= p0iq0i production.
the above formula reduces to Laspeyre’s formula and
wi’s represent the weights based on the relative
if current year values, i.e., wi = p0i.q1i, the above
importance of different outputs.
formula is changed to Paasche's formula.
Again the formula for price index based on
geometric mean of weighted price relatives is,
1/  wi
  p wi  i

P01    1i    100
 i  p0i  

for i s 1,2,.....,n
Formula error
The difference between the price (quantity)
indices due to Laspeyre's and Paasche's is known
as formula error. If the difference between the two
is negligible, the formula error is also insignificant.
Let the difference be denoted by D. Then,
D  P01
La
 P01
Pa

or D  QLa
01  Q01
Pa

Sampling error in reference to index numbers, and

how to check it
Index numbers are often constructed for n
selected items out of the total number of N items
produced or used. Hence, some error creeps in due
n
to sampling of items. If P01 is the price index based
N
on n sampled items and P01 on total N items, the
n
quantity (P01  P01
N
) is called the sampling error of the
n
price index number. A similar expression (Q01  Q01
N
)
represents the sampling error of the quantity index
number.
The relation of converting the chain index number
to fixed-base index number
The formula for converting the chain-base index
number (C.B.I) into fixed-base index number (F.B.I)
is,

Current year C.B.I

Current year F.B.I =  Previous year F.B.I
100
The index of industrial production
The index of industrial production (UP) measures
the changes in the level of industrial production in
a given period as compared to a base period. Here it