representative of prevailing quality choices in current consumption, then adjusting the selected substitutes with the standard indirect hedonic models.33

Since hedonics currently only replaces other procedures, its adoption by BLS has not led to more widespread adjustment for quality change in the CPI. Hedonic applications have most frequently taken the place of the class-mean method. As discussed above, the class-mean approach, like the deletion method, infers quality differences by comparing the observed price change of the replaced and replacement items to the price change of other goods. However, compared with deletion, the pure price change is imputed from a smaller set of quotes. Quotes are still drawn from a specific entry-level item (ELI), index area cell, but only those for items that are comparable replacements or directly quality adjusted are included to calculate average price change for the class. The idea is that the price change of items that are comparable to what they have replaced will reflect only pure price change. This approach is designed to recognize the fact that sellers often use the occasion of introducing model changes to raise prices. The estimated monetized value of quality change is the residual of the observed price change of the substitute item after the average price change of similar but comparable replacement items has been accounted for.

The class-mean method was instituted during the late 1980s partly to capture price increases that accompany introduction of new models. It is the designated method for item strata that experience frequent model and product line turnover. The deletion method misses these price increases because it only follows price movement associated with unchanged models. For this reason, Triplett (1997), Shapiro and Wilcox (1996), and BLS researchers have suggested that the method can overstate quality change and bias the index downward. The class-mean method, by imputing price change only from comparable replacements, attempts to account for the possibility that inflation is different for models that are changing in comparison with models that are stable. But if producers are systematically more likely to include “pure” price increases (or decreases) for new models that are substantively different from old ones than they are for those with only a change in model number (as is the case with 60 percent of comparable VCR substitutions), then this correction may still understate pure price change. In this case, the class-mean method may still lead to a larger quality adjustment than a

33  

The issue of whether or not the current item replacement rule—choosing the closest comparable item—makes sense is a separate but important one. In quickly evolving technology areas, if the replaced item became obsolete, it is likely that the closest substitute is also near obsolescence. If, instead, BLS agents selected the newest model or the one with the highest sales, the frequency with which item substitutions must be made could possibly be reduced. However, such a change in procedure would require making larger quality adjustments, which might pose other problems, particularly if one is not confident that currently available methods can really disentangle pure price and quality contributions to the observed price. A problem with using the newest model is that it will sometimes pick up features that do not last—not all innovations survive in the market.



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