Module: INTRODUCTION TO FINANCE Marks: 90 Assignment 1 1. What are Index numbers and discuss their uses? 2. Explain using simple terms how are index numbers constructed? 3. Select an index number...

1. What are index numbers and discuss their uses?
Index numbers are the numbers which shows how over a defined time period there is a relative change in the price of different commodities, in the volume of trade, sales, agricultural and industrial production, imports and exports, in the cost of living of people and the national income of the country etc. They reflect the pulse of an economy. As index numbers are used to measure economic behavior pressure, they are termed as economic barometers. Index numbers are statistical measures which reflects a magnitude of average prices at one time compared to the average prices at some other time which is known as the base year. These are a special type of average as compared to mean, median, mode because they can compare the relative changes even when the series are expressed in different types of units. Suppose we want to measure the changes in the price level of goods or items consumed be people belonging to certain section of society say labour class. We cannot measure these changes directly as the price of some goods may be increasing while price of other commodities may be decreasing and on the other hand not all the commodities are measured in the same units such as wheat is measured in per quintals, clothes in per meters, milk in per litres etc. So, we cannot measure the changes for the rate of increase or decrease of different goods are different. Here, index numbers come for solution as they give us an idea about a single figure which tells us the change in the price level of the particular good in the exclusive group of commodities. Index numbers are of par importance in economic field, government organizations, industrial purposes etc.
There are 4 types of index numbers
1. Simple Index Numbers
These index numbers are applied on a single variable or single item. They measure the relative change in prices if single variable with respect to base.
2. Composite Index Numbers
These types of Index numbers are applied to group of variables or items. They measure the average relative change of group of variables with respect to given base year.
3. Price Index Numbers
They measure the relative change in price of two commodities especially used in economic sense. The price may be a retail price or the wholesale price of a good.
4. Quantity Index Numbers
They measure the relative change in quantities if two or group of commodities between two periods. They are also mainly used in economic sense.
Uses and Applications of Index Numbers
· Economic Policies
They are used to formulate and evaluate economic policies. They measure changes in economic conditions and help us predict whether a policy is good or bad. This helps in formulation of economic policies.
· Trade - Import and Export
The import and export indices help us in achieving information about the trade conditions and trends which is helpful in deciphering the trend in foreign trade. The increase or decrease of the foreign trade will tell us what to do with the remaining balance.
· Production
They provide information about the increase or decrease of production in different sectors of the economy. This helps the manufacturing sector to understand the demand and supply of goods.
· Stock Market
Statistics is a widely used tool in stick market to determine the fluctuations in the market. Several statistical models are made to assess the volatility in the market and build the portfolio strategies. Index numbers helps in studying the trends in the stock prices. They provide information about the trends in the prices of shares in the share markets. They help in measuring the relative change in prices and volumes to identify the investment strategy and understand the periodic volatility.
· Prices of Commodities
They are helpful in measuring the changes in the price level that is the change in the value of money from time to time which is important as the change in value of money directly effects different sections of economy.
· Cost of living
They tell us about the cost of living of the country whether it is increasing or decreasing. This helps us in dealing with situation of inflation, if any.
· Salaries and Wages
It effects the changes in salaries, wages and different allowances given by government based on the change in relative prices.
· Measuring the changing value of money
Index numbers helps in measuring the changing value of money to determine priced and the production and employment level in the economy.
· Determining Foreign...