What Is Upward Bias In Prices Of Economic Growth?

While price indexes like the consumer price index are enormously useful, they are not without their faults. Some problems are intrinsic to price indexes. One issue is the index number problem, which concerns the choice of an appropriate period for the base year. The consumer price index uses a fixed weight for each good. As a result, the cost of living is overestimated compared to the situation where consumer substitutes relatively inexpensive for relatively expensive goods.

The case of energy prices can illustrate the problem. When gasoline prices rose sharply in the 1970s, people tended to cut back on their purchases and buy smaller cars or travel less. Yet the consumer price index assumed that they bought the same quantity of gasoline even though gasoline prices tripled. The overall rise in the cost of living was thereby exaggerated. Statisticians have devised ways of minimizing such index number problems by using different weighting approaches, such as chain weighting, discussed above, but the consumer price index has not adopted these alternative approaches. I think this answer will satisfy your question.