class of goods or services in a given region, during a given interval of time
Firstly used in Great Britain in 1886
After this it was used in US in 1893
In INDIA it was used in 1942 for the first time
TYPES OF PRICE INDICES
Main types of price indices used to
measure inflation are:-
Wholesale Price Index (WPI)
Consumer Price Index (CPI) Producer Price Index (PPI) Cost of living Indices (COLI) Construction Cost Indices (CCI) HOW TO CALCULATE GENERAL PRICE LEVEL Suppose a consumers basket has two commodities food & clothing. In January 2009 their prices were Rs. 80 & Rs. 90 resp. If prices of these commodities rise to Rs. 100 & Rs. 99 resp. by January 2010. How much is price rise? For food 25% [since 100-80 = 20, 20/80*100] For clothing 10% [since 99-90 = 9, 9/90*100] Thus a general price rise is [25+10]/2 = 17.5% If we now take (0.5) (25) + (0.5) (10) = 17.5% implies that equal weights of 0.5 are assigned to contd..
This is illogical since everyone doesnt spend
equal amount of income on two goods. Suppose you consume 5 units of food & 2 units of clothing at initial prices then total expenditure would be Rs 400 + Rs 180 = Rs. 580. So you spend 69% on food & 31% on clothing out of total expenditure. Thus you are more concerned with rise in prices on food than on clothing. To capture this relative importance of food over clothing, weights would now be (0.69) (25) + (0.31) (10) = 17.25 + 3.1 = 20.35% contd.
Now if we take base year 2009, January 1 with
general price level of 100 then general price level in 2010, January 1 is 100 + 20.35 = 120.35 Using Laspeyers Price Index
Through this method also we get same answer.
WHOLESALE PRICE INDEX
A Wholesale Price Index (WPI) is the
price of a representative basket of wholesale goods. Some countries use the changes in this index to measure inflation in their economies, in particular India. The Indian WPI figure is released weekly on every Thursday. Focuses on the price of goods traded between corporations. contd
The wholesale price index comprises of the
following indices:
Domestic Wholesale Price Index (DWPI)
Export Price Index (EPI)
Import Price Index (IPI)
Overall Wholesale Price Index (OWPI)
WPI AS A MEASURE OF INFLATION WPI uses a sample set of 315 commodities for inflation calculation The price from wholesale market is taken for the calculation It has a time lag of two weeks, which means WPI of the week two weeks back will be available now. WPI gives direction before the commodity actually hits the market ITEMS OF WPI SETTING UP OF WPI Finalization of the base year - Base Price index = 100 Finalization of the item basket Finalizing Classification structure Allocation of weights at major groups/ sub groups Allocation of weights is done based on the traded value of the item Finalization of item specification and sources of collection Collection of price Calculation of index Laspeyres Formula (relative method): It is given by the formula as : SNAPSHOT PROBLEMS WITH WPI
Wholesale markets for products like cars
may not exist
WPI doesnt take the price of services into
consideration
Some commodities may have higher
weights during a particular period and may not be consumed during other period. CONSUMER PRICE INDEX [CPI] CPI, also retail price index is a statistical measure of a weighted average of prices of a specified set of goods and services purchased by consumers for household purposes. It is a price index which tracks the prices of a specified set of consumer goods and services, providing a measure of inflation. The change in the CPI is a measure of inflation, and can be used for evaluation of wages, salaries, pensions, or regulated or contracted prices. contd.
Four different types of C.P.I. In India.
CPI UNME (Urban Non-Manual Employee) CPI AL (Agricultural Labourer) CPI RL (Rural Labourer) CPI IW (Industrial Worker) While the CPI UNME series is published by the CSO, the others are published by the Department of Labor. Covers poorest section of society It shows what consumers are paying Less closely tracked than W.P.I. Less no. of items included Released monthly not weekly Too much lag in reporting it every month contd. The CPI is like your shopping basket. It is a selection of goods and services which show what you spend on. Its a nationwide aggregate. There are two baskets, one for an urban consumer and another for a rural consumer and then there is a combined basket to represent both together. The idea behind building this basket is to see how the prices of items in it have changed over the years. This change is shown as a percentage and is the inflation you face. Each separate item in this basket has a value. The first time an item is picked, its value is pegged at 100 (in this case, the basket is valued starting in the year 2010) and then moves according to price change every year. For example, you know how expensive milk has become; in two years from 2010 January to 2012 January, the index of dairy products has moved from 100 to 122.4 (urban index). contd.
Food, beverages and tobacco is a sub-
group, which includes products such as fish and meat, cereals and vegetables. Clothing, bedding and footwear is another sub-group, which includes items like footwear. All these together make a complete basket. So, the final cost of the basket depends on the price of individual items and the space they occupy (weightage). contd.
It is a price index that tracks the prices of a
specified basket of consumer goods and services, providing a measure of inflation.
If CPI is used to measure inflation , then the rate
of inflation between 2 periods , say period t and period (t-1 ) is given by: PRODUCER PRICE INDEX A Producer Price Index (PPI), measures the average change over time in the sale prices of domestic goods and services. WPI does not capture the price movement of services. E.g. the index captured the price of important commodities such as milk from the retail markets; not at the producer level. PPI measures price changes from the perspective of the seller. Sellers and purchasers prices differ due to government subsidies, sales and excise taxes, and distribution costs. CONSTRUCTION COST INDICES [CCI] Construction Cost Index is an indicator of the average cost movement over time of a fixed basket of representative goods and services related to Construction Industry. It accurately calculates the changes in the escalation cost. These indices monitors variations in the overall cost of construction for various types of projects such as buildings, roads, bridges, railways construction, dams, power plants mineral plants, transmission, urban infrastructure etc contd..
It is a business cycle showing the trend in the
cost incurred by the contractor in the construction process It is the monthly measure of Construction Cost movement for the Indian Construction Industry released by Construction Industry Development Council [CIDC]. Identification of the base year Identification of the item basket - Allocation of weights at item, groups/ subgroups level Statistical Analysis for the number evaluation Publishing the Indices Data management and warehousing contd..
Laspeyres Index Formula
P = Change in cost level,
t0 = Base period (usually the first year), tn = Period of index computation Similar tailor made software can be developed for Hydroelectric Projects. COST ESCALATION It is change in the cost/price of specific goods or services of a given economy over a period of time. In a project, it refers to additional amount of money required to construct a project over and above the original budgeted document. It occurs when actual cost exceeds previously estimated value. Cost escalation is the process of determining the percentage increase in a products cost over time. On a large scale, cost escalation is used to determine inflation for our nations economy. contd..
Escalation is used to estimate the future cost of
a project or to bring historical costs to the present.
Escalation is the provision in a cost estimate for
increases in the cost of equipment, material, labour, etc., due to continuing price changes over time.
Most cost estimating is done in current Rupees
and then escalated to the time when the project will be accomplished. CAUSES OF ESCALATION Natural Calamities, Interest Rates, Oil Prices, Global Commodity markets, Wars, Wage rates, Demand & Supply. Size of Project Inflation Poor Coordination on site Expiry of bid Transportation Problems Suspension of works & strikes Engineering uncertainties & exogenous delays Failure to plan adequate manpower Poor understanding of local labour productivity contd
In India cost escalation formula are linked
to a system of independent cost indices that allow the prices to be adjusted at determined intervals. These indices are evaluated by WPI. These linking of formula to WPI allows prices to be adjusted at determined intervals thus limiting clients & contractors risk & gives them fair & equitable returns CALCULATION OF ESCALATION
Price adjustment due to an increase/decrease in the
cost of construction commodity procured by the contractor shall be paid in accordance with the formula - Adjustment for Labour component
VL = increase or decrease in the cost of work during the month under
construction due to change in the rate of Labour L0 & Li = CPI for industrial workers for the state on the day 28 days preceding the date of opening of bids & month under consideration PL = Percentage value of commodity component of the work in the construction as suggested by the client. R = total value of work done during the month