Price Indexes (6) Changing World

The problem with the matched sample is that the world is not static. The range of goods and services available is constantly changing, and people are constantly changing what they buy. The best solution to this problem is to update the basket as frequently as possible.

Households are constantly searching out the cheaper outlets for the goods and services they by. Since this shift to cheaper outlets and brand is not captured by the price index, most fixed basket indexes have an upwards bias. In other words, they overstate the level of price change.

Some economists get agitated about chain-linking of price indexes, but chain-linking is just a practice of updating the sample basket and weights more frequently. This partly removes the upward bias that comes from leaving the basket unchanged.

The ongoing challenge faced by price statisticians is that some of the goods and services in their matched samples go out of production or become redundant. When this happens the redundant product must be substituted with a different product. In some situations the substitute might be quite different, so a price relative with the price for a new product in the numerator and an old product in the denominator would distort the price index.