Using a Constant Elasticity of Substitution Index to Estimate a Cost of Living Index: From Theory to Practice
affiliation not provided to SSRN
University of British Columbia - Department of Economics; National Bureau of Economic Research (NBER)
Kevin J. Fox
University of New South Wales - Australian School of Business - School of Economics
November 10, 2010
UNSW Australian School of Business Research Paper No. 2010 ECON 15
Indexes often incorporate various biases due to their methods of construction. The Constant Elasticity of Substitution (CES) index can potentially eliminate substitution bias without needing current period expenditure data. The CES index requires an elasticity parameter. We derive a system of equations from which this parameter is estimated. We find that consumers are highly responsive to price changes at the elementary aggregation level. The results support the use of a geometric rather than arithmetic mean index at the elementary aggregate level. However, we find that even the use of a geometric mean index at the elementary aggregate level may not sufficiently account for the observed level of consumer substitution.
Number of Pages in PDF File: 30
Keywords: Price indexes, elasticity of substitution, scanner data
JEL Classification: C43, E31Accepted Paper Series
Date posted: November 11, 2010
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