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At What Price?: Conceptualizing and Measuring Cost-of-Living and Price Indexes
complex formula even for a stripped-down representation of the tax code. Constructing a more precise index would substantially add to that complexity and still require the use of some judgmental simplifications. The result would be an opaque indexing measure that would be very difficult to explain and justify to taxpayers. Therefore, we conclude the following:
Conclusion 7-6: Despite the imperfections of the CPI, it should continue to be the basis for tax indexation and the tax law should not be changed to require the construction of an “exact” index.
MEASURING OUTPUT CHANGES
In the national income accounts of all countries, changes in national output are estimated by using price indexes to “deflate” the changes in the components of current dollar expenditures and then combining them into aggregate indexes of output (quantity) or, correspondingly, constant dollar output measures. In this context an aggregate index of inflation ought to be evaluated in terms of its ability to partition expenditures into two symmetric components—an index of inflation and an index of output change, which when multiplied together produce the observed change in current dollar expenditures.21
In the United States, as in most other industrial countries, the overall CPI or its equivalent is not used as a deflator for aggregate consumption expenditures, but its individual components are the deflators for most of the individual categories of consumption expenditures. Up-to-date estimates of consumer expenditures in current dollars are made quarterly by BEA in the U.S. Department of Commerce to produce the national income and product accounts. The expenditure estimates are based on sales and other data, collected mainly from sellers rather than households. For most categories of consumption goods, the NIPA estimates of expenditures are substantially higher than those derived from the CEX survey.22 While the NIPA estimates undoubtedly pick up a large volume of expenditures that are missed in the CEX interviews and diaries, for many expenditure categories (e.g., automobiles and computers) one must cull from NIPA the sales made to business firms or to individuals for business use, which introduces a potential source of error. Consumer expenditures constitute about two-thirds of GDP. If the NIPA estimates of aggregate consumer spending are seriously over-
See Diewert (2000a:sections 2, 3) for a treatment of this topic.
There are some differences in scope between the NIPA and CPI universes of consumption goods, dictated by the structure of the national income accounts. For example, the NIPA classifies the value of in-kind transfers to consumers as consumption, rather than government expenditures. And in the NIPA price index for personal consumption expenditures, the weight assigned to medical services includes Medicare- and Medicaid-financed outlays; in the CPI the medical service weights reflect only out-of-pocket consumer expenditures.