What methods of Index Number calculation is used to calculate Cost of

Living Index (CLI)

A cost-of-living index is an ideal price index that measures differences in the
price of goods and services over a period of time or region and allows for
substitution to other items as prices vary. In simple terms, exact cost-of-living
index is the cost of achieving a certain standard of living in one year relative to
the cost of achieving the same level next year. Since we cannot directly measure
the standard of living, therefore true cost-of-living index is only a theoretical
concept not a practical price index formula.
The consumer price Index is most of the times called a cost-of-living index
but it is different in many important ways from a complete cost-of- living
measure. Both CPI and CLI would reflect changes in the price of goods and
services that are directly purchased in the market place but a complete CLI
would also take into account changes in governmental and environmental factors
that affect consumers well-being.
Cost -of-living index number can be constructed by the following two (02)
formulae:
1. Aggregate expenditure method or weighted aggregative method.
2. Family budget method or method of weighted relatives.
Aggregate expenditure method or weighted aggregative method
In this method, approximate cost-of-living index is given by the formula

p q
p q

1 0

100

0 0

Here,

p1

q0
p0

Refers to the prices of commodities in the current year

Refers to the quantities of the base year
Refers to the prices of the commodities in the base year

The prices of commodities for various groups for the current year are multiplied
by the quantities
of the base year and their aggregate expenditure of current
year is obtained. Then the prices of commodities for base year are multiplied by
the quantities of the base year and their aggregate expenditure of base year is
obtained. Finally, the aggregate expenditure of the current year is divided by the
aggregate expenditure of the base year and the quotient is multiplied by 100.
Family budget method or method of weighted relatives
In this method, the family budgets of a large number of people are collected and
the aggregate expenditure of the average family on different items is used as
weights. Then current years price are converted into price relatives on the basis
of base years prices and these prices relatives are multiplied by the respective
values of the commodities, in the base year. The summation of these products is
divided by the sum of the weights and the resulting figure is the required index
numbers.

In this method, approximate cost-of-living index is given by the formula

pv
v

Here,

v p0 q0

, values for the base year

p
p = 1 100
po

, for each item

Let us consider an example shown in the table below (Values indicated are not
actual).
Commodi Quantit Prices
ties
y
200 201
consu
0
3
med in
p1
p0
Kg in
( ) ( )
2000(

q0

A
B
C

p1q0
p0q0

6
5
4

)
100
200
50

200
300
100

= (1200+1500+400) = 3100

= (600+1000+200)=1800
So, CPI = 172.22
Consumer Price Indexes or cost-of-living indexes are used in compensating
the employees in form of increasing the allowances. While the Economist
Intelligence Unit believes that the weighting pattern mentioned in this report fits
the requirement, it is clear that special circumstances may arise whereby a
company would feel that a modification in the weights might be needed. In such
cases, the EIU has the authority to offer companies a "tailor-made" index based
on any national or individual weighting pattern that may be necessary.