Index Numbers

Index Number Definition

Index number in statistics is the measurement of change in a variable or variables across a determined period. It will show general relative change and not a directly measurable figure. An index number is expressed in percentage form. 


Importance of Index Number 

Index numbers occupy an important place due to its efficacy in measuring the extent of economic changes across a stipulated period. It helps to study such changes' effects due to factors that cannot be directly measured.


Characteristics of Index Numbers 

The main features of index numbers are –

  • It is a special category of average for measuring relative changes in such instances where absolute measurement cannot be undertaken

  • Index number only shows the tentative changes in factors that may not be directly measured. It gives a general idea of the relative changes

  • The method of index number measure alters from one variable to another related variable

  • It helps in the comparison of the levels of a phenomenon concerning a specific date and to that of a previous date

  • It is representative of a special case of averages especially for a weighted average 

  • Index numbers have universal utility. The index that is used to ascertain the changes in price can also be used for industrial and agricultural production.


Types of Index Numbers 

Its major types are –

  1. Value Index

A value index number is formed from the ratio of the aggregate value for a particular period with that of the aggregate value that is found in the base period. The value index is utilised in for inventories, sales and foreign trade, among others. 

  1. Quantity Index 

A quantity index number is used to measure changes in the volume or quantity of goods that are produced, consumed and sold within a stipulated period. It shows the relative change across a period for particular quantities of goods. Index of Industrial Production (IIP) is an example of Quantity Index. 

  1. Price Index

A price index number is used to measure how price alters across a period. It will indicate the relative value and not the absolute value. The Consumer Price Index (CPI) and Wholesale Price Index (WPI) are major examples of a price index. 


Uses of Index Number in Statistics 

  • It helps in measuring changes in the standard of living as well as the price level. 

  • Wage rate regulation is consistent with the changes in the price level. With the determination of price levels, wage rates may be revised.

  • Government policies are framed following the index number of prices. This price stability inherent to fiscal and economic policies is based on index numbers.

  • It gives a pointer for international comparison concerning different economic variables—for instance, living standards between two countries.


Advantages of Index Number

  • It adjusts primary data at varying costs, which is useful for deflating. It facilitates the transformation from nominal wage to real wage.

  • Index numbers find extensive usage in economics and help in the framing of appropriate policies. Such findings help with the establishment of researches as well.

  • It helps in case of trends such as drawing outcomes for irregular forces and cyclical forces.

  • Index number can be leveraged in case of future development of activities in the economic sphere. This time series analysis is utilised for the determination trends and cyclical developments.

  • The number is useful in measuring the changes that take place in the standard of living in different countries over an established period.


Limitations of Index Number 

  • There are chances for errors given that index numbers come as a result of samples. These samples are put together after deliberation, which creates chances for errors. It can also be found in weights or base periods etc.

  • It is always calculated based on items. Items that are so selected may not exactly be in trend, which in turn creates an inaccurate analysis. 

  • Multiple methods can be used to formulate index numbers. Due to this multiplicity of methods, outcomes may bring forward a different set of values which may further lead to confusion.

  • The index numbers show the approximate indications of the relative changes that occur. Moreover, the changes in variables that are compared over a prolonged time may fall short on reliability.

  • The selection of representative commodities may be skewed. It is since these commodities are based on samples. 

Test your knowledge - 

1. Choose the features of index number from the following.

  1. Specialised average 

  2. Measurement of change over a time period 

  3. Indicated in percentage form

  4. All of the above

Ans. (d)

2. Index number measures the changes in variable or variables over time. 

  1. True 

  2. False 

  3. At times

Ans. (a)

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FAQ (Frequently Asked Questions)

1. What do you Mean by Index Number?

A. The index number is a process for evaluation of different alterations in a variable or a group of variables with respect to time, geographical location etc. Its significance is derived from the fact that it can be utilised for the measurement of differences within related variables belonging to a group.

2. What are the Methods of Index Numbers?

A. The construction methods of index numbers can be divided into two groups – simple method and weighted method. Commodities' total price in a specific year is divided by that of the base year in the simple aggregative method. In the weighted method, the weighing considers an approximate factor.

3. What are the Different Types of Index Numbers?

A. Index numbers are primarily of three types – value index, quantity index and price index. 

A value index number is the ratio of commodities' aggregate value in the present year and that of the base year. Quantity index is the measurement of changes in consumer items.  Price index focuses on changes in price.