Price Index

Price index measure of relative price changes, consisting of a

series of numbers arranged so that a comparison between the
values for any two periods or places will show the average
change in prices between periods or the average difference in
prices between places. Price indexes were first developed to
measure changes in the cost of living in order to determine the
wage increases necessary to maintain a constant standard of
living. They continue to be used extensively to estimate changes
in prices over time and are also used to measure differences in
costs among different areas or countries.
Example: Price indices generally select a base year and make
that index value equal to 100. Every other year is expressed as a
percentage of that base year. In this example, let 2000 be the
base year: 2000: original index value was $2.50; $2.50/$2.50 =
100%, so new index value is 100.
Formula:
To calculate the Price Index, take the price of the Market Basket
of the year of interest and divide by the price of the Market Basket
of the base year, then multiply by 100.
Why We Use:
The CPI is what is used to measure these average changes in
prices over time that consumers pay for goods and services.
Essentially, the index attempts to quantify the aggregate price
level in an economy and thus measure the purchasing power of a
country's unit of currency.
 Types of Price Indices
Inflation is measured by constructing inflation indices. Inflation
indices which help in calculating inflation rates indicate how much
prices have changed over a period of time. The indices
themselves are a representation of the level of prices at a
particular time. Not all prices are included in the index, only a
specified basket of goods and services. The basket in the index is
representative of the items which are relevant to a market or
group. Thus there are different price indices for the prices faced
by different groups.
1. The Wholesale Price Index (WPI)
2. The Consumer Price Index (CPI)
3. The Producer Price Index (PPI)
4. GDP Index

The Wholesale Price Index (WPI)

It includes prices of the goods sold in the wholesale market, i.e.
the market where bulk transactions are made for further sale
afterwards.
An indicator that keeps a track of the change in prices of
wholesale goods, the Wholesale Price Index is a variable value.
Concerned with the price of commodities that are dealt with at the
wholesale level, the construct of the Wholesale Price Index is a
major determinant of an economy's inflation level. This index
reflects on the change in the average price of goods that are
traded in bulk. Unlike the price that is demarcated at the retail
level wherein individual consumers purchase goods from the
market, the Wholesale Price Index (WPI) focuses on the average
price a trader has to pay when buying goods wholesale.
Concept of WPI work
For the total price of goods released in a span of a year that
needs to be calculated, a base year is determined before the
change has to be calculated. A base year in India is a year that
comes first in a chain of years.
 The base year should belong to a peacetime or a stable era
in terms of economic activities.
 The year should not belong to a period of business cycles.
 Reliable data on price should be available for that specific
year.
 The year should be recent, it should not become outdated by
the time prices are released
The year for various economic factors should not be outdated.
Formula of WPI
WPI= (Current Price / Base Period Price) × 100

The Consumer Price Index (CPI)

It includes prices of goods and services sold in the retail market,
i.e. the final prices which the end consumers have to pay. It is
hence also called the cost of living index. It is also used for
indexing dearness allowance to employees for increase in prices.
The CPI is what is used to measure these average changes in
prices over time that consumers pay for goods and services.
Essentially, the index attempts to quantify the aggregate price
level in an economy and thus measure the purchasing power of a
country's unit of currency.

Concept of CPI
A “market basket of consumer goods and services” means a
specific group of items people buy. The CPI measures prices in
several major categories of consumer spending. The CPI doesn’t
factor in non-tangible things consumers spend money on.
Intangibles can include life insurance or investments.
 Food and beverages
 Housing
 Medical care
 Transportation
 Education and communication
 Recreation
 Clothing
 Other goods and services
Formula of CPI
CPI = Cost of market basket in a given year/Cost of market
basket in base year x 100

The Producer Price Index (PPI)

It includes producer or output prices which are the prices of the
first commercial transactions of goods and services or the
transactions at the point of first sale. Most of the countries have
replaced their WPI with the PPI in the 1970s and the 1980s,
except India. The PPI usually covers the industrial
(manufacturing) sector as well as public utilities. Some countries
also include agriculture, mining, transportation and business
services. The WPI prices include taxes and transportation
charges, whereas the producer prices do not.
The PPI measures price movements from the seller's point of
view. Conversely, the consumer price index (CPI) measures cost
changes from the viewpoint of the consumer. In other words, this
index tracks changes to the cost of production. There are three
areas of PPI classification that use the same pool of data from the
Bureau of Labor Statistics: industry, commodity, and commodity-
based final and intermediate demand.
Concept of PPI
Producer Price Index data are widely used by the
Business community, as well as government.
 A short-term indicator of inflationary trends
 A deflator of other economic series e.g. Gross Domestic
Product (GDP) and the Producer Volume Index (PVI)
 For contract negotiations
 An analytical tool for business and/or Researchers
Formula of PPI
PPI = current price of basket / base price of basket