How to calculate Laspeyres Price Index

What is the Laspeyres Price Index?

 Laspeyres Price Index is a consumer price index that is used to measure the changes in the prices of goods and services relative to the base year. It was invented by a German Economist, Etienne Laspeyres. He used this price index to analyse the changes in the price. The index uses a base year of 100 for the analysis of the index. If the index is greater has 100, it implies that the prices have risen and if the index is less than 100, it implies that the prices have fallen. The Laspeyres Price Index is primarily used by economists to analyse the economic growth of the country, taking into consideration the inflation in goods and services. A key difference between the Laspeyres Price Index and other indices is that it uses weights taken from a base period. Laspeyres Price index is also helpful for calculating the Fisher-Price Index. 

Formula

The formula for the Laspeyres Price Index is as follows:

Where:

  • Pi, t is the price of the individual item at the observation period
  • Pi, 0 is the price of the individual item at the base period
  • Qi, 0 is the quantity of the individual item at the base period. 

The mathematical formula might be confusing to a lot of people. In simple terms, the numerator is the total expenditure for all items at the observation period using base quantities, and the denominator is the total expenditure for all items at the base period using base quantities. The formula can be rewritten as:

Pros and Cons of the Laspeyres Price Index

Pros:

  • Easy to Calculate in an Excel sheet
  • Focuses on base year quantities and current level prices only
  • Gives fair picture and value of the commodities since base year quantities
  • A good parameter to frame future policies that will help control the inflation

Cons:

  • Does not take into account the current level of quantities
  • Ignores growing economy
  • Ignores new entrants in the market
  • Does not take into account the change in quality and substitute goods that have a major impact on prices

Conclusion

The Laspeyres Price Index is one of the key ratios for determining the speed of inflation for goods and services. This index is widely used by economists in taking the financial economy decision for the country and to drive the consumer market without passing on the pressure of price rise and to the common public. 

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