4.2.1.3_-_Uses_of_index_numbers Flashcards
What are index numbers used for?
To measure changes in the price level and changes in other economic variables
Index numbers are used to make comparisons between years, and to measure the magnitude of change over time
What is a base year?
A base year is used and is then compared to other years.
For example, if the year 2015 is the base year, the value given to it is 100. If inflation has risen by 5% between 2015 and 2018, the index number for 2018 will be 105.
How are index numbers used in the calculation of CPI?
Different items in the basket of goods have difference weights. Food will have a much larger weighting than clothing, since consumers spend more of their income on food. The index number measures the change in price over time.
What are the two ways to define inflation?
- A sustained rise in the average price level of goods and services over a period of time
- A fall in the value of money
How is the Retail price index calculated?
By carrying out two surveys: The Living costs and food survey and a survey based on prices
What are the two main measurements for inflation?
RPI (Retail Price Index)
CPI (Consumer Price Index)
What does the The Living costs and food survey of the RPI find out?
It is a survey of around 6000 households which determines what people spend their money on , it also shows the proportion of income spent on these items. This is used to calculate the relative weighting of each item. For example is 20% of income is spent on transport then transport will have a 20% weighting
What does the second survey of the RPI measure?
The changes in prices of around 700 of the most commonly used goods and services (these goods and services are often referred to as the ‘basket of goods’)
How are the items within the ‘basket of goods’ chosen?
Based on the Living Costs and Food Survey. What is in the basket changes over time, because of technology, trends and tastes. This ensures that the basket roughly reflects what the average household might spend its money on
How does the RPI measure inflation?
The price changes in the second survey are multiplied by the weightings from the first survey. These are converted into an index number. So inflation is just the percentage change to the index number over time. E.G. if the index number rises from 100 to 102, then inflation is 2%
How does CPI measure inflation?
In a similar way to RPI but there are three main differences:
1) some items are exclude from the CPI, the main ones being:
- Mortgage interest payments
- Council tax
2) A slightly different formula is used to calculate the CPI (by tracking the price movements of 650 items instead of 700)
3) A larger sample of the population is used for the CPI
What do the differences between the CPI and RPI cause?
The CPI tends to be a little lower than the RPI - the exception of when interest rates are very low. However they both tend to follow the same long-term trend
Which measurement of inflation is used in the UK?
The CPI is the official measurement of inflation in the UK. Many other countries collect data on inflation in a similar way to the CPI, so it is often used for international comparisons
What are the limitations of the RPI and CPI?
- RPI excludes all households of the top 4% of incomes
- The information given by households in the Living Costs and Food Survey can be inaccurate
- The basket of goods only changes once a year - so it might miss some short-term changes in spending habits
What two ways are the RPI and CPI important for government policy?
- Used to help determine wage and state benefits
- Used to measure changes in the UK’s international competitiveness
