Though the topic being dealt with here is popularly known as the Cost of Living Index the official bodies, who deal with compiling the necessary figures for it, use titles such the 'Retail Prices Index' (in the UK) or the 'Consumer Price Index' (Internationally). After all, they argue, who can say what it really costs to live - to what standard?
How is it Compiled?
The contents of a notional 'shopping basket' are listed with the aim of covering nearly all the items that consumers spend their money on. That means food, lighting, heating, travel, entertainment, holidays etc. etc. etc.. Every country in the world carries out a pricing survey (on its own 'shopping basket') at least once a year.
In the UK it is done monthly, on a Tuesday in the middle of each month and about 130,000 prices are collected each month. Even with the aid of computers it takes some time to analyse all this data and reduce it to a single figure, and this figure (the RPI) is published about the middle of the following month. It was started (in the UK) in 1914 but, at that time, only the basic things were priced - bread, potatoes, lamp oil and candles were covered - biscuits, cakes, fresh fruit and electricity were not. It was also called the 'cost of living index'. (They should have inserted the word 'basic' before the 'living'!)
Though Price Indexes have only been started in recent times, there has been a lot of work done by economists and historians in trying to produce Indexes which cover the past. Essentially this is done by the study of documents which mention prices in various connections. Chiefly (but not exclusively) these concern food and land. But such Indexes have to be treated with great caution, especially when going back as far as 1300(!)
Even modern Indexes which are based on recorded surveys done at the actual time can easily lead to some silliness. For instance, using this calculator we can find that something costing £1,000 in the UK in the year 2000 would, according to the Retail Prices Index, have cost £36 in 1930. Really? Well it is probably true for a second-hand car but certainly does not apply to computers! Even being realistic about what was physically possible we can see many anomalies. Sticking with computers, their prices have been decreasing over the years, but that is against the trend of the RPI which has been increasing.
No, the Price Indexes are like all statistics concerning masses of data, telling us everything about the average, and nothing about the individual cases. Price Indexes might, or they might not, be a very good guide as to what has happened to a particular product, but some discretion is always needed in their use.
What is an Index?|
Index numbers are used to record the growth of some measurable quantity (like, in this case, prices). It simply establishes one value as 'the base' and then all other values are given by a figure that shows by how much 'the base' must be multiplied to produce that value.
For example. Take the set of values
In the case of a Price Index, the total cost of the 'shopping basket' in one particular year is taken as 'the base' (so the value of the Index in that year will be 100) and the totals in all subsequent years are compared with that. In the UK the 'base year' now being used is 1987 and RPI values for the subsequent years are as follows
This is a figure which is probably more familiar than that for the Price Index. It is a measure of how the Price Index is growing over a 1 year interval.
Between any two consecutive years (say Year 1 and Year 2) it can be worked out from
The Value of a Currency
A question often asked is "How much is a £ ($, franc, mark or whatever) worth now, compared with (say) 1990?". Let us first of all realise that that question as it stands is meaningless. A £ in 1990 was worth a £ just the same as a £ now is worth a £. The correct question is of the form "How does the purchasing power of a £ in 1990 compare with its purchasing power now?" OK, we have an idea of what the first question meant, but if we keep the real meaning in mind it might help to keep the reasoning clear.
Let us assume that 'now'=2000, and the country is the UK.
First, we can put 1 in the 1990 box and read off 1.39 in the 2000 box. This means that the 'shopping basket' which cost £1 in 1990 would cost £1.39 'now'.
Second, we can put 1 in the 2000 box and read off 0.72 in the 1990 box. This means that the 'shopping basket' which 'now' costs £1 would have cost £0.72 (or 72p) in 1990.
So, just how do you answer that original question?
And, by the way, what exactly did you have in that shopping basket?
So What Use is it?|
The first thing you notice when looking at prices over time is that very rarely does any single item (whatever it is) line up with the Price Index!
Then if you look at the 'shopping basket' itself you wonder just who it is intended for: the poor, the rich, the middle-class, a family of 1 or a family of 6, or any other criteria you can think of. In some regard or other, no individual or group is ever typical.
When it comes to pricing the items which make up the 'shopping basket' it will depend on where you shop. Even in a relatively small country there will be price variations in different regions, and the more remote areas will certainly have a premium on almost everything they purchase when compared with more densely populated areas congregated around larger urban centres.
All sorts of adjustments are made to the figures in an effort to allow for many of the above criticisms but, when you read the detail of what is done to boil it all down to a single representative figure, you are left with a feeling that it is all one big glorious fudge.
So, why do we keep on using it?
Quite simply, because there does not seem to be any reasonably acceptable alternative. Not the best of reasons, but it has proved its 'worth' over many years now as being a 'yardstick' against which the economy can measured and assessed.
|Who uses it?|
Almost all countries use a Price Index (or its derivative the Rate of Inflation) as an aid to managing their economies, and it does seem to be a very good tool, regardless of any reservations that have been touched upon above.
The Rate of Inflation is always quoted for purposes of comparison whenever wage-bargaining is being discussed or a settlement is made.
It is also used to determine annual increases in nearly all government payments of benefits (pensions, unemployment, family allowances etc.)
Similarly for most tax increases.
Such changes are said to be 'index linked'.
And it is 'absolutely essential' for answering questions like "It used to cost X in year Y so what should it cost now?" OR "I used to get X pounds in year Y, so what should I be getting now?" Yes it is invaluable!
|The UK Historic Index|
As mentioned above there have been several attempts to extend modern indexes backwards in time. This is just one more. It is based on Seven Centuries of the Price of Consumables which was written by Phelps-Brown and Hopkins and published in the Economica of November 1956. They produced an index covering every year from 1271 to 1954. To do this they made up their own 'shopping-basket' of goods that a household needs and searched through over 100 lists and records of past times to cost that basket over the years. The resulting index is very 'spiky' when drawn as a graph, plotted against the years, with some quite wide variations from one year to the next. However, the overall trends are clear and, to produce the index being used here, the graph has been 'smoothed out' by taking 10-year averages at the required intervals. The extension beyond 1950 was made using the growth of the official RPI as a set of multipliers on their list.
So, this index is a 'crude' one but will serve to give an adequate answer to some often-asked questions. For instance, a reader of Jane Austin's Pride and Prejudice would read that Mr Darcy had an income of 10,000 pounds a year, and might well wonder what would be the equivalent of that in modern times? First it is necessary to know in what year the book was set. Let us suppose it was in 1810. Using the calculator, putting 10000 in against 1810 and pressing 'Calculate It!' shows that it would require well over 200,000 pounds (that is 20 times as much, or say a quarter of a million) to keep up his same standard of living in the year 2000. That is, of course, assuming that he was spending all of his 10,000 pounds.
In passing we might note that 1810 was an 'expensive' year. All the previous years were lower (though that might be expected) but so were all the following years up to 1920. In fact, a peak was reached in 1813 which was not 'bettered' until 1915, a run of 102 years. Notice that, assuming his actual income did not change, Mr Darcy would have been almost twice as 'rich' in 1850 as he was in 1810. But then (presumably) so would anyone else!
At the 14th International Conference of Labour Statistics (Geneva,1987) it was stated that
"The purpose of a consumer price index is to measure changes over time in the general level of prices of goods and services that a reference population acquire, use or pay for consumption. A consumer price index is estimated as a series of summary measures of the period to period proportional change in the prices of a fixed set of consumer goods and services of constant quantity and characteristics, acquired, used and paid for by the reference population. Each summary measure is constructed as a weighted average of a large number of elementary aggregate indices. . . . "
Who produces these figures?|
All countries have an interest in compiling their own Consumer Price Index in order to manage their own economies. But the International Labour Organisation (ILO), based in Geneva, acts as the central authority for the world-wide collection and dissemination of these figures. They produce not one, but six different indexes (or indices) under headings such as 'General', 'Food', 'Clothing' 'Rent' etc.
They are issued annually in a Year Book, together with lots of other data concerning those countries.
The figures used in these calculators are based upon those figures (from the General Index) but supplemented with figures from other sources where the ILO tables are not complete (either historically or currently).
No guarantee is given as to the accuracy of any of the figures used in this work (for different reasons) and, for reasons outlined above, nor should they be treated as absolute arbiters in any one situation, but they are very good indicators. In fact, the 'Consumer Price Index' might be better renamed as the 'Consumer Price Indicator'.
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