HOW INFLATION IS CALCULATED

21.2/3-MEASUREMENT OF INFLATION/CALCULATION OF RETAIL PRICE INDEX

The retail price index (RPI) is an official index carried out by the government (department of employment) which measures price changes in products over a period of time and thus measures inflation.

It includes a wide range of goods & services to show the value of money spent by average household. The following procedure is used:

·         A sample of around 7000 households is selected each year and every fortnight 270 of them are asked to keep a record of their expenditures.

·         A basket of goods and services consumed by the average family is listed. For example, food, clothing and transport etc are included in the basket.

·         Around the middle of each month, some 130 000 price quotations for 600 items are obtained from retail outlets throughout the country. From this, the changes in the prices of different goods & services is estimated.

·         The index for each month is then calculated as follows :

Table for Calculation of the retail price index

YEAR 1(Base Year) :

Commodity	Weight	Price (in pounds)	Index	Weighted Index
A	1	10p	100	100
B	2	1	100	200
C	3	5	100	300
	6			600

Index(RPI) = 600/6 = 100

YEAR 2(Current Year) :

Commodity	Weight	Price(in pounds)	Price Relative	Weighted Index
A	1	12p	120	120
B	2	1.5	150	300
C	3	4.5	90	270
	6			690

Index(RPI) = 690/6 = 115

·         A date is chosen as a base date, and prices on this date are given the index value 100. The price of items in the basket in the base (first) year is noted.

·         Each item in the basket is given a number value (weighted) to reflect its importance to the average family. For example, Commodity C (say food) has a higher weighting than Commodity B and A (say clothing and transport).

·         The price index for each commodity is multiplied by its weight.

·         The price of goods in the basket is recorded every month compared with base year as a % (price relative) using the equation:
Price Relative = Current price/Base price x 100

·         The price relative of each item is then multiplied by its weighting and weighted index is calculated. These weighed indices are added together and divided by the total weights.

·         The rate of inflation is determined as the percentage change in the RPI over the last twelve months and is calculated using the equation:

Rate of inflation = (Current RPI - Last RPI)/Last RPI x 100

(115 - 100)/100 x 100 = 15 %