THE CONSUMER price index (CPI) is a measure of the average change over time in the prices paid by general consumers for a specific basket of goods and services.

This basket is finalized through family budget survey conducted after 10 years to switch over to the new base year. Base year is the year when index is set at 100. The consumer price index computed by the Federal Bureau of Statistics affects all Pakistanis because of the ways it is used. The major uses of CPI are:

(a) Economic indicator: The CPI is most widely used as a measure of inflation and is sometimes viewed as an indicator of the effectiveness of the government’s economic policy.

(b) Deflator of various economic series: The CPI and is components are used to adjust various economic series for price changes and to translate these series into inflation-free.

For whom the CPI is computed? The CPI reflects spending patterns for urban centres: It is based on the expenditures of almost all residents of urban areas, including professionals, the self-employed, the poor, the unemployed, and retired persons, as well as urban wage earners and clerical workers. Not included in the CPI are the spending patterns of persons living in rural areas.

Cost-of-living Index and CPI? The CPI is frequently called a cost-of-living index, but it differs in important ways from a completed cost-of-living measure. A cost-of-living index is a conceptual measurement goal, however, not a straightforward alternative to the CPI. A cost-of-living index is a conceptual measurement goal, however, not a straightforward alternative to the CPI. A cost-of-living index would measure changes over time in the amount that consumers need to spend to reach a certain utility level or standard of living. Both the CPI and a cost-of-living index would reflect changes in the prices of goods and services, such as food and clothing, that are directly purchased in the marketplace; but a complete cost-of-living index would go beyond this to also take into account changes in other governmental or environmental factors that effect consumers’ well-being. It is very difficult to determine the proper treatment of public goods,such as safety and education, and other broad concerns, such as health, water quality, and crime, that would comprise a complete cost-of-living framework.

How the basket is determined? The CPI market basket is developed from detailed expenditure information provided by families and individuals on what they actually bought. For the current CPI, this information was collected from the family budget survey. In this survey 40806 households were covered.

Items covered in CPI: The CPI represents all goods and services purchased for consumption by the population expenditure items arranged into ten major groups. Major groups and their weights are as follows in Table-1.

Interpretation of CPI: CPI is a tool that simplified the measurement of movements in a numerical series with reference to base period. An index of 110, for ex-ample, means there has been a 10 percent increase in price since the base period; similarly an index of 90 means a 10-percent decrease. Movements of the index from one date to another can be expressed as changes in index points (simply, the difference between index levels), but it is more useful to express the movements as percent changes. This because index points are affected by the level of the index in relation to its base period, while percent changes are not. In the following table, item A increased by half as many index points as item B between year I and Year II. Yet, because of the different starting figures, both items had the same percent change; that is, prices advanced at the same rate. On the other hand, Items B and C show the same change in index points, but the percent change is greater for Item C because of its lower starting value: (table-II)

Price collection for CPI: The FBS staff who is trained and well qualified visits the markets where general consumers usually visit. For the CPI with base 2000-01, there are 71 markets through out the country from where prices are being collected. For example in Islamabad the markets from where prices are gathered include Aabpara, Super and Rana, G-9 Markaz and Peshawar More.

Is CPI is the best measure of inflation? Inflation has been defined as a process of continuously rising prices, or equalently, of a continuously falling value of money. Various indexes have been devised to measure different aspects of inflation. The CPI measures inflation as experienced by consumers in their day-to-day living expenses. The best measure of inflation for a given application depends on the intended use of the data. The CPI is generally the best measure for adjusting payments to consumers when the intent is to allow consumers to purchase, at today’s prices, a market basket of goods and services equivalent to one that they could purchase in an earlier period. it is also the best measure to use to translate retail sales and monthly earning into real, or inflation-free, earnings.

Inflation rate: In general terms, average change in price level of consumer goods and services during a specific period as compared to the previous specific period is known as the inflation rate.

Mathematically, inflation rate is defined as the rate of change in the average price level between two periods. These periods may be current month and previous month, current month and the corresponding month of the last year, current whole year and the proceeding whole year. For the whole year the average of monthly CPI of respective year is considered. Symbolically, Inflation rate = (CPIc - CPIp)/CPIp x 1000

Where

CPIc = CPI for the current period

CPIp = CPI for the previous period

While the term inflation is used to indicated the general upward trend in prices, whereas, deflation refers to a situation where the general level of prices is falling. However, if the rate of inflation is declining it means that the general level of prices is increasing but at slow rate. This situation may be called as disinflation.

The above chart showing the inflation rates of Pakistan from 1976-77 to 2000-01. During most of the years the situation of disinflation is apparent e.g. during 1977-78, 1978-79, 1982-83 to 1986-87, 1998-90, 1991-92, 1992-93, 1995-96 and 1997-98 to 1999-2000.

There are various types of inflation such as:

Moderate inflation: Inflation is said to be moderate if the annual inflation rate is single or double digits but does not exceed 20 per cent per year.

Galloping inflation: This occurs when prices start rising at double or triple digit rates more than 20 per cent year.

Hyperinflation: This is also known as “run-away inflation”.It is rapid, uncontrolled inflation that destroys a nation’s economy. It causes money to become valueless.

For example, hyperinflation ruined and caused the collapse of the German economy just after World War I ended in 1918. The German government, in order to finance itself after the war, printed so much currency that caused prices to increase by more than one trillion percent in a matter of one year and three months. People needed baskets of currency to buy goods. In Philippines, hyperinflation occurred during the Japanese occupation in the early 40s.

Impact of inflation: a) Inflation reduced the value of money. When inflation is moderate, prices are relatively stable. And when prices stable, people trust money. They are willing to hold on to currency because its value does not depreciate rapidly. People are willing to put money in banks, and write long term contracts in nominal terms. In other words, the monetary system is functioning well.

b) Inflation affects income and wealth distribution. During inflationary periods, lenders are losers because money paid them is worthless than what is originally expected. On the other hand debtors are winners.

c) Inflation also causes distortions in the relative prices and outputs of various goods and services.

d) The situation of disinflation usually the cause of less production or improper use of production in the country. And as a result, the purchasing power of a common man declined. For example, a salaried person may lose his pocket much before ending the month.

Individual experience with price change? Not necessarily. It is important to understand that FBS bases the market baskets and pricing procedures for the CPI on the experience of the relevant average household, not of any ‘specific family or individual. It is unlikely that your experience will correspond precisely with either the national indexes or those for specific cities or regions. For example, if you or your family spend a larger than average share of your budget on medical expenses, and medical care costs are increasing more rapidly than other items in the CPI market basket, your personal rate of inflation (or experience with price change) may exceed the CPI. Conversely, if you use your energy, and fuel prices are rising more rapidly than other items, you may experience less inflation than the general population. a national average reflects all the ups and downs of millions of individual price experiences. It seldom mirrors a particular consumer’s experience.

The writer is the Director General of the Federal Bureau of Statistics.