i

INDEX NUMBER

PRESENTED BY

ADEBAYO KAYODE
AGP 15/16/H/0308

SUBMITTED TO

PROF. T. ALIMI

IN PARTIAL FULFILMENT FOR ADVANCED STATISTICS

DEPARTMENT OF AGRICULTURAL ECONOMICS OBAFEMI

AWOLOWO UNIVERSITY ILE-IFE.

2016

Table of Content
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Cover Page

Table of Content

………………………………………………………………………….. I

Introduction

………………………………………………………………………….1

Preparation of Index number

…………………………………………………………. 1 – 2

Uses of Index Number…………………………………………………… 3

Why convert data into Index …………………………………………. 3

Construction of Index Number……………………………………….. 4

Classification of Index Number………………………………………….. 4–8

Laspeyre Price Index……………………………………………………… 9 – 11

Paasche Index Number …………………………………………………… 11- 12

Value Index ……………………………………………………………. 12 -13

Exercises ………………………………………………………………. 13- 14

Conclusion …………………………………………………………. 15- 16

References ……………………………………………………………. 17
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1.0 INTRODUCTION

No systematic approach to collecting and reporting data in index form was evident until about
1900. The cost-of-living index (now called the Consumer Price Index) was introduced in 1913,
and a long list of indexes has been compiled since then.

Index Number

This is a Statistical tool that is used to measure changes in price, quantity, or

value of groups of related items over a period of time.

Index Number: This is a number that expresses the relative change in price, quantity, or value
compared to a base period.

Index number studies the change in the in the effects of an identified factor within
a system which cannot be measured directly.

Index number is an indicator of average percentage change in a series of figures

where one figure (called the base) is assigned an arbitrary value of 100, and other
figures are adjusted in proportion to the base.

1.1 Preparation of Index Number

1. Select a Base Year: This is the first step in index number preparation, and
care has to be taken in the selection of the base year, it should not be a year
of war, neither should it be a year that is too prosperous nor a year of
depression.

2. Select Commodities: After we must have selected our base year, the next
step in preparing an index number is the selection of different or specific
commodities that are to be added to the index number.
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3. Collect Prices of Commodities: Prices of the selected commodities has to be

well ascertained, and in commodity price selection retail prices of
commodities are the best, this is because they are prices at which the
commodities are purchased for consumption, but because retail prices varies
among different stores there by not giving a reliable record, we best take the
whole sale price of the selected commodities which has a proper record.

4. Commodity representation: Here we have to represent the different prices of

individual commodities for the base year as 100 and the price for the
subsequent years as a percentage for the base year.

5. Take the average of Figure (s) for both the base year and the Current year in
order to find and ascertain the changes (i.e. Change in prices of a
commodity, Change in economic value of a commodity, changes in the
population, changes in Production. Changes In ideas and innovations)

1.2 Uses of Index Number

 The index number is used to measure the relative change in just one
variable, such as hourly wages in manufacturing, we refer to this as a simple
index which is the ratio of two values of a variable and to a percentage. This
example will further illustrate the use of index numbers.
 It measures the change in the price of a large group of items consumers
purchase. Governments, consumer groups, unions, management, senior
citizens organizations, and others in business and economics are very
concerned about changes in prices.
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1.3 Why Convert Data to Indexes

An index is a convenient way to express a change in a diverse group of items. The Consumer
Price Index (CPI), for example, encompasses many items—including PMS, Car servicing, food
items, Clothing, and Health care fees. Prices are expressed in Naira per kilogram, liters, yard,
and many other different units. Only by converting the prices of these many diverse goods and
services to one index number can the federal government and others concerned with inflation
keep informed of the overall movement of consumer prices.

Converting data to indexes makes it easier to assess the trend in a series composed of
exceptionally large numbers.
Example:
YEAR Price of parboiled Rice per
bag in August 2016 (N)
August 2016 10, 000
September 2016 20, 000

RICE PRICE∈SEPT 20,000

( 100 ) = X 100=200
RICE PRICE ∈ AUG 10 , 000

An index of 200 indicates that the price of parboiled rice in September 2016 has increase by
100% when compared to the base period August.

2.0 Construction of Index Numbers

We already discussed the construction of a simple price index. The price in a selected year (such
as 2003) is divided by the price in the base year. The base-period price is designated as P0, and a
price other than the base period is often referred to as the given period or selected period and
designated Pn. To calculate the simple price index P using 100 as the base value for any given
period use the formula.

Pn
Simple Index P = (100)
Po
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Example
Suppose that the price of a standard Plot of land in Edunabon, in 2014 was N 180,000, and the
price rose to N 250,000 in 2016. What is the price index for 2015 using 2014 as the base period
and 100 as the base value?

P=
250,000
180,000 (100) = 138.9

Interpreting the result; the price of a standard plot of land EDUNABON has an index of 138.9,
when compared to the base value shows a 38.9% increase in the price of a standard plot of land
in the said area.

2.1 CLASSIFICATION OF INDEX NUMBERS

We can classify Index number as either Simple or composite Index (es).

 Simple Index Numbers

It is the ratio of two values of the variable and that ratio converted to a percentage.
The following four examples will serve to illustrate the use of index numbers.
Price index number is computed using the following formula:

 I = Pn /POX 100 ……………. Equation 1

Where Pn = Price in a given period, Po = Price in base period.

It is easier done when using calendar years as subscripts, P1987 indicates that
price of a commodity in the year 1987.

Example 2:

Given the assumed information on the Africa’s demand for the years 2011 to
2015, construct a simple price index using 2011 as a base. Interpret the index.
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Table 1

Year Africa’s’ Demand for fertilizer (000’ tons)

2011 3, 496
2012 3, 551
2013 3, 615
2014 3, 686
2015 3, 758

Solution:
Table 2
Year Demand in current year ÷ Index relative Demand %Relative
Demand in Base year (2011) relative or or
Index number %change
2011 3 469 ÷ 3 469 1.00 x 100 100
2012 3 551 ÷ 3 469 1.02 x 100 102 2
2013 3 615 ÷ 3 469 1.04 x 100 104 4
2014 3 686 ÷ 3 469 1.06 x 100 106 6
2015 3 758 ÷ 3 469 1.08 x 100 108 8

In interpreting the index value, we observe that the year 2011 index, which is the
arbitrary base period, has an index number value of 100. For 2012, the index
number of 102 implies that the demand for NPK fertilizer increased by 2%.

Also in the year 2013 whose index was compared to the base period index, there
was a 4% increase in the demand for NPK Fertilizer in Africa,

And in the year 2014 the index show a 6% increase in the demand for the
commodity followed by a significant 8% increase in the demand of the commodity.
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%CHANGE IN DEMAND FOR FERTILIZER IN Nigeria

(2011 - 2015)
(Excel Spread sheet)
9

0
99 100 101 102 103 104 105 106 107 108 109

Simple graph, plotting the Percentage change against Index number shows the
movement of the change, whether it is increasing or decreasing. But in this case the
rate of change experiences a steady increase.

EXAMPLE 2:

According to Statistics, in 1995 the average salary of wage earners 15 years and
older in a typical firm in Nigeria was N 20 828 per year. In 2001, it was N 24 165
per year. What is the index of yearly earnings of workers over age 15 in
Newfoundland and Labrador for 2001 based on 1995?
earners
Average yearly income of wage ∈2001
15
I= (100)
earners
Average yearly income of wage ∈1995
15
24165
( 100 )
20828
= 116.0
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Thus, the yearly salaries in 2001 compared to 1995 has an index of 116.0. This
means that there was a 16% increase in yearly salaries during the six years from
1995 to 2001.
 Composite Index Number

To construct a composite Index, either of these methods should be helpful:

 Simple Aggregate Price Index:

The term aggregate in the initial approach in computing a composite index,

means the total sum of a series of values. A composite price index may be
either weighted or un-weighted. They can be computed using the following
formulas:

Table 3:

Item 1995 Price (N) 2005 Price (N)

Bread white (loaf 70 100
Eggs (dozen) 180 250
Milk (liter) white 150 320
Apples, red 70 120
Orange juice 150 250
Coffee,100% 60 90
Total 680 1130

 Un-weighted index:

∑ Pn
I = ∑ P x 100
0
-------------------------------------- (2)

N 1 130
I= N 680 (100) = 116.2
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This is called a simple aggregate index. The index for the above food items is
found by summing the prices in 1995 and 2005. The sum of the prices for the base
period is N 680 and for the given period it is N 1130.
The simple aggregate index is 116.2, this means that the aggregate group of prices
had increased 16.2 % in the ten years period.
 Weighted index

Two methods of computing a weighted price index are the

1) Laspeyre’s method and the
2) Paasche method.
They differ only in the period used for weighting. The Laspeyres method uses
base-period weights; that is, the prices and quantities of the items bought in the
base period are used to find the percent change over a period of time in either price
or quantity consumed, depending on the problem. The Paasche method uses
current-year weights for the denominator of the weighted index.

1) LASPEYRE PRICE INDEX METHOD:

Etienne Laspeyres developed a method in the latter part of the 18th century to
determine a weighted index using base-period weights. Applying his method,
weighted price index is computed by:
∑ Pn Q 0
I = ∑ P Q X 100 ----------------------------------------------- (3)
0 0

Where:
P is the price index.
Pn is the current price.
P0 is the price in the base period.
Q0 is the quantity used in the base period.
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Equation (3) is also called Laspeyre index; which uses quantity weights (Q0) from
the base period so that only the prices are allowed to change. It is desirable to use a
quantity weight that is not far in the distant past, because weights become out of
date with passage of time due to changes in buying patterns.
Computation of Laspeyres and Paasche Indexes of Food Price, 1995 = 100
 Determine a weighted price index using the Laspeyres method. Interpret the
result.
TABLE 4
Item 1995 2005
Price (N) Qty Price (N) Qty
Bread 70 50 100 55
Eggs 25 26 40 20
Milk (liter) 20 102 50 130
Apples 50 30 90 40
Orange Juice 100 40 250 41
Coffee 30 12 65 12

First we determine the total amount spent for the six items in the base period, 1995.
To find this value we multiply the base period price for bread (N 70.00) by the
base period quantity of 50. The result is N3500. This indicates that a total of
N3500 was spent in the base period on bread. We continue that for all items.
Table 5
1995(Po) Qty(Qo) 2005(Pn) P0Q0 PnQ0
Item Price(N) Price (N)
Bread 70 50 100 3,500 5,000
Eggs 25 26 40 650 1,040
Milk (liter) 20 102 50 2,040 5,100
Apples 50 30 90 1,500 2,700
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Orange 100 40 250 4,000 10,000

juice
Coffee 30 12 65 360 780

∑ PoQo ∑ Pn Qo
12,050 27,430

P=(100)
∑ Pn Q 0 = N 27 , 430
(100) = 2.28(100) = 228 = 128%
∑ P0 Q 0 N 12, 050

Based on this analysis we conclude that the price of this group of items has
increased by 128% in the ten year period.
The advantage of this method over the simple aggregate index is that the weight of
each of the items is considered, while in the simple aggregate index only the prices
of the items were considered.

2) PASSCHE METHOD:

The Paasche index is an alternative. The procedure is similar, but instead of using
base period weights, we use current period weights. We use the sum of the
products of prices and quantity of items in 2005 (current period) divided by the
sum of prices and quantity of items in the base period 1995. This has the advantage
of using the more recent quantities. If there has been a change in the quantities
consumed since the base period, such a change is reflected in the Paasche index

P=(100)
∑ PnQn
∑ P0 Q n
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Table 6:
1995 (Po) Qty 2005 (Pn) Qty PoQn PnQn
Item Price ($) Price ($)
(Qo) (Qn)
Bread 70 50 100 55 3,850 5,500
Eggs 25 26 40 20 500 800
Milk (liter) 20 102 50 130 2,600 6,500
Apples 50 30 90 40 2,000 3,600
Orange juice 100 40 250 41 4,100 10,250
Coffee 30 12 65 12 360 780

∑ PoQn ∑ PnQn
13,410 27,430

P=(100)
∑ Pn Q n = N 27,430
(100) = 2.05(100) = 205
∑ P0 Q n N 13,410

This result indicates that there has been a 105% increase in the prices of this
market basket of goods between 1995 and 2005. That is, it costs 105% more to
purchase these items in 2005 than it did in 1995. All things considered, because of
the change in the quantities purchased between 1995 and 2005, the Paasche index
is more reflective of the current situation.
It should be noted that the Laspeyres index is more widely used.

3.0 VALUE INDEX

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A value index measures changes in both the price and quantities involved. A value index, needs
the original base-year prices, the original base-year quantities, the present-year prices, and the
present-year quantities for its construction.

V =(100)
∑ Pn Q n
∑ P0 Q 0
What is the index of value for May 2005 using 2000 as the base period? The prices and
quantities sold at typical Department Store for various items of apparel for May 2000 and May
2005 are.
Table 7:
Item 2000 Price Qty Sold 2005 Price Qty Sold
(Po) (N) (Thousand) (Qo) (Pn) (N) (Thousand) (Qo)
Ties (each) 10 1000 12 900
Suits (each) 300 100 400 120
Shoes (pair) 100 500 120 500
Item 2000 Qty Sold Po Qo 2005 Price Qty Sold Pn Qn
Price (Thousand ($ Thousand) (Pn) ($) (Thousand) (Qn) ($ Thousand
(Po) ($) ) (Qo)
Ties 10 1000 10,000 12 900 10,800
(each)
Suits 300 100 30,000 400 120 48,000
(each)
Shoes 100 500 50,000 120 500 60,000
(pair)
90,000 118,800

Table 8: Construction of a Value Index for 2005 (2000 = 100)

V =(100)
$ 118,800
$ 90,00
= 1.32(100) = 132 = 32%
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This shows that the index of the value of the items have increased by 32% in the space of five
years. Thus the value index of apparel sales in 2005 was 132.of the year 2000 sales. To put it
another way, the value of apparel sales increased by 32.0 % from 2000 to 2005.

4.0 EXERSICES
The following exercises can be used to practice for a further understanding of the index number.
1. The Johnson Wholesale Company manufactures a variety of products. The prices
and quantities produced for April 1997 and April 2005 are:
Using April 1997 as the base period, find the index of the value of goods produced for April
2005.

1997 Product 2005 Product 1997 Qty 2005 Qty

Price (N) Price (N) Produced Produced

Small motor 200 450 1760 4259

(each)
Scrubbing 250 380 86 450 62 949
compound (litre)
Nails 150 280 9460 22 370
(pound)

` 2. Compute a simple price index for each quarter with 2003 as the base year. What
can you conclude about the change in stock price over the period?
The following information was reported on food items for the years 1995 and 2005.
Items 1995 Price (N) 2005 Price (N) 1995 Qty 2005 Qty

Groundnut 50 150 5 3
(/Bot)
Sugar(/Pack) 70 100 3 3

Milk Big Tin 120 350 5

4
Garri(per cup) 40 150 10 30
 Compute a simple aggregate price index. Use 1995 as the base period.
 Compute Laspeyres’ price index for 2005 using 1995 as the base period.
 Compute Paasche’s index for 2005 using 1995 as the base period.
 Determine Fisher’s ideal index using the values for the Laspeyres and Paasche indexes
computed in the two previous problems.
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3. Given the prices of the following commodities

Items AUGUST 2001 Quantity AUGUST 2006 Quantity
Price(N) Price(N)
Tooth paste 250 6 280 6
Shampoo 500 4 550 5
Cough Tablet 150 2 200 3
Antiperspirant 200 3 300 4

a. Determine the simple price index

b. Determine the simple aggregate price indexes for the two years
c. Determine the Laspeyres Price Index
d. Determine The Paasche Index
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4.1 Conclusion
The index number is a tool that is used to show the percentage change or rate of change in prices,
values, and quantity of different commodities. It shows whether the rate of change is increasing
or decreasing. A base period is selected and assigned an arbitrary value of 100. Usually the base
period is always the earliest period.

We can compute the simple index by dividing the prices in the current period by the price in the
base period, and the value multiplied by 100.

Index number is classified into, simple and composite index. The simple index number is used to
measure the relative change in just one variable, such as hourly wages in manufacturing. It is the
ratio of two values of the variable and that ratio converted to a percentage.

The composite index number can be measured by either of this methods

By using
Simple aggregate index = Un-weighted index:
∑ Pn
I = ∑ P x 1000

And Weighted index, which can be computed by using Laspeyre’s method

∑ Pn Q 0
I= ∑ P0 Q 0

And also the Paasche Method

P=(100)
∑ Pn Qo
∑ P0 Qn

A value index measures changes in both the price and quantities involved. A value index, such
as the index of department store sales, needs the original base-year prices, the original base-year
quantities, the present-year prices, and the present-year quantities for its construction.

V =(100)
∑ Pn Q n
∑ P0 Q 0
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REFERENCES
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Emathzone.com, (2014): Uses of Index Numbers. Available at:

www.emathzone.com/tutorials/basic-statistics/uses-of-index-numbers.html. Accessed on the 15th

of October, 2014

Gazu Lakhotia, (2014): Consumer Price Index Numbers in Statistics. Available at:

https://economics-the-economy.knoji.com/consumers-price-index-numbers-in-statistics.

Accessed on the 15th of October, 2014

Gazu Lakhotia, (2014): Uses and Limitations of Index Numbers. Available at:

https://economics-the-economy.knoji.com/uses-and-limitationa-of-index-numbers.

Accessed on the 15th of October, 2014.

Reza Hoshmand A. (1998). Statistical Methods for Environmental and Agricultural Sciences:

Index Numbers 2. 383-402.

Vancouver community college learning center, (2013): Trend Index Number & Analysis of

Financial Statements. Available at:library.vcc.ca/learningcentre/pdf/vcclc/HOSP2110-4-

FinancialStatementAnalysis.pdf. Accessed on the 15th of October, 2014.

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