Unit 2 Macro: Revision on Index Numbers

What are index numbers and why do economists use them?

An index number index number is an economic data figure reflecting price or quantity.

Index numbers enable use to quickly assess changes in a series of economic data. Some indices are aggregates telling us what is happening to variables such as inflation (i.e. the CPI and the RPI) or share prices (the FTSE100, FTSE250 and so on).

When we are measuring the level of national income we often make use of index numbers to track what is happening to real GDP. Data measured in £ billion for each quarter can be converted into an index. First a base data value for a specific time is chosen and that is given an index number of 100. Subsequent and previous data to that base value can then be converted into index number format.

Here are two examples of putting economic data in index number format

The chart above tracks the real value of construction industry data - focusing on changes in the value of output of buildings. One can see clearly here the severity of the recession that hit the UK building industry in 2008-09 and the partial recovery since

Consumer price data is shown in the chart above. This follows the level of prices as measured by the consumer price index (CPI) and two component series within the CPI calculation. Taking 2005 as the base year for the calculation (i.e. the price index = 100) we see that the real price of beer has actually fallen in recent years but that there has been a huge rise in the nominal and the real prices of electricity, gas and other fuels.

Examples of frequently used and quoted index numbers

You will come across index numbers on a regular basis in your studies of macro economics; here are some of the common ones:

1. Financial Times Stock Exchange 100 Index (FTSE100) - for the average share prices of the UK’s biggest 100 quoted firms
2. Index of Production – an index of production for different industries including manufacturing, construction and services
3. Retail Price Index (RPI) and Consumer Price Index (CPI) - for the general level of prices / changes in the cost of living
4. Sterling Effective Exchange Rate Index - for calculating the overall value of the pound (£) against all other currencies including the US $ and the Euro