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Retrospective Price Indices and Substitution Bias

Summary

The consumer price index (CPI) is usually computed as a fixed-weighted Laspeyres price index, with the weights updated at discrete intervals only. It is well known that the Laspeyres functional form entails a substitution bias. One way to reduce it would be to use chained indices, and superlative ones if possible. Unfortunately, the necessary data are often missing. This paper proposes a simple method to retroactively compute the CPI once updated weights become available. The proposed index has the Fisher form. This makes it possible to assess the size of the substitution bias. An application to Swiss data is provided.

References

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Correspondence to W. Erwin Diewert.

Additional information

This paper was written while Huwiler was at the Swiss National Bank, Economic Analysis Unit.

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Open Access This article is distributed under the terms of the Creative Commons Attribution 2.0 International License ( https://creativecommons.org/licenses/by/2.0 ), which permits unrestricted use, distribution, and reproduction in any medium, provided the original work is properly cited.

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Diewert, W.E., Huwiler, M. & Kohli, U. Retrospective Price Indices and Substitution Bias. Swiss J Economics Statistics 145, 127–135 (2009). https://doi.org/10.1007/BF03399277

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  • DOI: https://doi.org/10.1007/BF03399277

JEL-Classification

  • C43
  • E31

Keywords

  • price index
  • inflation
  • superlative indices
  • substitution bias