1. Consumer Price Index

2. Consumer Price Index
Definition: The consumer price index (CPI) is a measure of the changes in the average price of goods and services that consumersnormally purchase such as food, clothing, medicals and others. CPI is also a measure that indicates changes in the general price level from the base year to the current year.
There is an inverse relationship between the general price level and the value of money. The value of money is the purchasing power of the consumer, or
the ability to buy goods and Services. When the general price level is higher, the value of money will be lower and vice versa.
3. How to Measure CPI?
The measurement of CPI is based on the collection and compilation of average price ofgoods and services in the market. The measurement is based upon 4 Steps.
Step 1: Selection of the Base Year:
The reference base period is when the CPI is defined as 100 for a period. Currently, the base year is the year 2000. Price changes in other years will be in reference to this base year and expressed as a percentage. The base year selected is a normal year in which the economy and prices are stable.
4. Step 2: Selection of CPI BasketThe next step is to select the CPI basket. The term basket refers to the goods and services represented in the index and the relative importance attached toeach of the items. This item reflects the typical consumption of a generalhousehold.
5. The composition of the CPI in Indonesia is shown Below
6. Step 3: Prices of Selected Goods
Prices of selected goods in the CPI basket must be obtained through reliable sources. The basket is valued at a base year price. Then, the same basket will
be valued at a current year price. The current year price index can be obtained
using the following formula:
The base year index is equal to 100.
Based on the above steps, we can construct a simple CPI with the help of Table given below.
7. The Table is showing the construction of Simple Price Index
8. Therefore, the general price level or costs have increased by 23.1 per cent
(723.1- 100) from the base year to the current year.
9. Step 4:Weightage
Weightage is the figure used to measure the importance of the item in the basket depending on the amount of money spent by the consumer on each item. The highest weightage shows the most important commodity and the lowest shows the least important commodity for the consumer. For example, if the weightages for food and transportation are 4 and 1 respectively it shows that
food is more important since the amount of money spent on food is 4 times more than transportation.
Assume that weights are given in respect of the items in Table . The weighted CPI can be calculated as shown in the next give Table .
10. Calculation of CPI
11. The weighted CPI is calculated using the following formula,
This shows that the general price level has increased by 36.5 per cent compared to the base year.
12. Formulas Used in Calculation CPI:
13. Example: How to calculate CPI?
The following data shows thegoods in a country.
(i) Given that the base year index is 100, calculate a simple consumer price
index.
(ii) If the weights for food, clothing and housing were given as 8, 4 and 3 respectively, calculate the weighted consumer price index.
14. (iii) Calculate the inflation rate.
Assignment 1.
15. Assignment 2:
Referring to the table below, answer the following questions.
a) Assuming that 2004 is the base year, calculate the weighted price index for each
commodity for the year 2005.
b) Calculate the overall weighted consumer price index for the year 2005.
c) What is the rate of inflation or deflation in the year 2005?
d) Calculate the change in the value of money for the year 2005. What is the real value of $100 US for this year?
e) Based on your answer in question (b) above, if a person received $2000 US in the year 2000 and $2500 US in the year 2005, has his standard of living risen?