ON THE ACCURACY OF INDEX NUMBERS

Bent Hansen and Edward F. Lucas

Review of Income and Wealth, 1984, vol. 30, issue 1, 25-38

Abstract: Index number accuracy is affected by formula specification and sampling error. The authors argue that an index formula should be “ideal” and “exact” (with reference to the range of economically plausible aggregator functions) to be economically justified. These indices are invariant in the homothetic case, as well as in certain non‐homothetic scenarios. Empirically, based on foreign trade data for Egypt from 1885‐1961, the set of economically justified indices are virtually identical, supporting the theoretical argument that “instrumental error” or “formula variance” should be a negligible factor contributing to index number error. In a discussion of sampling error, on the other hand, the authors criticize earlier work and propose an upper and lower bound. Using the same data, these limits imply that sampling error may be a serious problem for many indices.

Date: 1984
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