Uses of index numbers, Financial Management

Assignment Help:

Uses of Index Numbers

1. Establishes trends

Index numbers when analyzed reveal a general trend of the phenomenon under study. The available figures for inflation based on wholesale price index and consumer price index suggest that in 1993, inflation is lower than that in the earlier three years and was the highest in 1991 and started declining subsequently. Refer the table on the next page.

2. Helps in policy making

It is widely known that the dearness allowance paid to the employees is linked to the cost of living index, generally the consumer price index. From time to time it is the cost of living index which forms the basis of many a wage agreement between the employees union and the employer. Thus index numbers guide policy making.

3. Determines purchasing power of the rupee

Usually index numbers are used to determine the purchasing power of the rupee. Suppose the consumer price index for urban non-manual employees increased from 100 in 1984 to 202 in 1992, the real purchasing power of the rupee can be found out as follows:

100/202

= 0.495

It indicates that if rupee was worth 100 paise in 1984 its purchasing power is 49.5 paise in 1992.

4. Deflates time series data

Index numbers play a vital role in adjusting the original data to reflect reality. For example, nominal income (income at current prices) can be transformed into real income (reflecting the actual purchasing power) by using income deflators. Similarly, assume that industrial production is represented in value terms as a product of volume of production and price. If the subsequent year's industrial production were to be higher by 20% in value, the increase may not be as a result of increase in the volume of production as one would have it but because of increase in the price. The inflation which has caused the increase in the series can be eliminated by the usage of an appropriate price index and thus making the series real.

Construction of Real Wage Indices

Year

     Nominal wages 

      (Rs.)

Consumer price index

Real   
 wages (Rs.)

Real wage index
 (base 1985 = 100)

 

 

       (a)

 

(b)

(c = (a/b) * 100 )

 

(d = (c/a, base)*100 )

 

1985

  900  

100

900.00

100.00  

1986

  950  

108

879.63

  97.74  

1987

1020  

117

871.79

  96.87  

1988

1050  

131

801.53

  89.06  

1989

1100  

148

743.24

  82.58  

1990

1200  

155

774.19

  86.02  

1991

1275  

175

728.57

  80.95  

1992

1400  

180

777.78

  86.42  

When the actual time series i.e. nominal wages is deflated using the consumer price index, we find that real wages have been generally decreasing though the nominal wages are increasing. The situation is very well reflected by the real wage index.


Related Discussions:- Uses of index numbers

Accounting standards, Accounting Standards The paradigm shift in the e...

Accounting Standards The paradigm shift in the economic environment during last few years has led to increasing attention being devoted to accounting standards as a means towa

#title.operating cycle., discuss the applicability of an operation cycle in...

discuss the applicability of an operation cycle in a vegetation business

Define floating rate notes, Define Floating Rate Notes Floating-rate n...

Define Floating Rate Notes Floating-rate notes (FRNs) are commonly medium-term bonds along with their coupon payments indexed to some reference rate.  Common reference rates a

Calculate the risk premium and probabilities , Johnson & Johnson (JNJ) is t...

Johnson & Johnson (JNJ) is trading at 68.15 (Sep 12th 2012 close). JNJ is a large health care conglomerate. It has done well so far this year (though not as well as the market) and

Define leveraged buyout, What is an LBO?  What are the risks for the equity...

What is an LBO?  What are the risks for the equity investors and what are the potential rewards? A term leveraged buyout is a purchase of a publicly owned corporation through a s

Dividend policy, #questThe managing directors of three profitable listed co...

#questThe managing directors of three profitable listed companies discussed their companies'' dividend policies at a business lunch. Company A; has deliberately paid no dividends

Explain hedging transaction exposure, Discuss and compare hedging transacti...

Discuss and compare hedging transaction exposure by using the forward contract vs. money market instruments. While do the alternative hedging approaches generate similar result?

Cost of capital , ABC Ltd. Produces electronic components with a selling pr...

ABC Ltd. Produces electronic components with a selling price per of Rs.100. Fixed cost amount to Rs.2,00,000/- 5000 units are produced and sold each year. Annua

Pre-requisites for effective budgetary control system, ORGANISATION FOR BUD...

ORGANISATION FOR BUDGETARY CONTROL (or) PRE-REQUISITES FOR THE INTRODUCTION OF AN EFFECTIVE BUDGETARY CONTROL SYSTEM 1.   BUDGET CENTRE:  It is a section of the organization

Issuer’s considerations, Issuer's Considerations Cash Flows: Issuers ma...

Issuer's Considerations Cash Flows: Issuers may consider the period for which the funds are required and try to spread the borrowings in a way to minimize the costs. Generally,

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd