Consumer Behaviour

Applications of Consumer Behaviour in Construction of Price Indices –

Laspeyers and Paasche‘s indices
Price Index

 Definition: A 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 goods and
services of constant quantity and characteristics, acquired, used or paid for
by the reference population.
 Uses:
 It serves as an indicator of inflation in an economy.
 Can be used to change the components of national income.
Laspeyres Price Index

 Laspeyres Price Index: The Laspeyres Price Index is a price index used to measure
the change in the prices of a basket of goods and services relative to a specified
base period weighting. Developed by German economist Etienne Laspeyres, the
Laspeyres Price Index is also called the base year quantity weighted method.
 Formula: If we consider two time period then the Laspeyres Price Index is
formulated as:
Paasche Price Index

 Paasches Price Index: The Paasche Price Index is a price index used to measure the
change in the price and quantity of a basket of goods and services relative to a base
year price and observation year quantity. Developed by German economist Hermann
Paasche, the Paasche Price Index is commonly referred to as the “current weighted
index.”
 Formula: If we consider two time period then the Paasches Price Index is
formulated as:
Laspeyres Quantity Index

 Definition: The Laspeyres Quantity Index is a quantity index used to measure the
change in the quantities of a basket of goods. Developed by German economist
Etienne Laspeyres, the Laspeyres Quantity Index is also called the base year price
weighted method.
 Formula: If we consider two time period then the Laspeyres Quantity Index is
formulated as:
Paasche Quantity Index

 Definition: The Paasche Quantity Index is a quantity index used to measure the change
in the price and quantity of a basket of goods and services relative to a base year
quantity and observation year price. Developed by German economist Hermann
Paasche, the Paasche Quantity Index is also called the base year price weighted
method.
Relationship between Revealed
Preferences and Quantity Index
If the Paasche Quantity Index is less than 1 then:

That mean current year commodity bundle is more preffered than base year
commodity bundle.
Diagram
Thank you