Abstract:

The Bureau of Labor Statistics calculates the US Producer Price Index using a modified Laspeyres formula that employs fixed quantities as weights but allows prices to vary over time. Having fixed quantities as weights imposes a restriction on substitution in response to relative price change. This paper examines the effects of the substitution restriction by reestimating select Final DemandIntermediate Demand (FDID) PPIs from 2002 through 2016 on an annual basis using fixedbased Fisher and Tornqvist formulas, both of which allow for substitution. These experimental FDID indexes are calculated from annual average values of commodity indexes with weights updated annually. Subsequently, the experimental indexes are compared to the same indexes calculated using the fixedbased Laspeyres formula. The paper will demonstrate that, in general, the experimental FDID indexes calculated using formulas that allow for substitution result in lower index values than those calculated using the Laspeyres formula, implying substitution toward relatively less expensive products.
