by far the largest category of goods and services in the cpi basket is This is a topic that many people are looking for. star-trek-voyager.net is a channel providing useful information about learning, life, digital marketing and online courses …. it will help you have an overview and solid multi-faceted knowledge . Today, star-trek-voyager.net would like to introduce to you Baskets of Goods & Substitution Bias (Price Indices #3). Following along are instructions in the video below:
“A coconut costs 1 in thailand and triple in france. If coconuts were the only only product. We could simply say that the french price level is triple thailand s obviously coconuts aren t the only product and comparing price levels gets tricky once we add another product. Suppose the only other product is the peach costs 2 in france and double in thailand.
Thailand has cheaper coconuts. But france has cheaper peaches. So how do we decide which country is cheaper to decide the economist fixes. Some basket of goods and compares its cost across the two countries ideally this basket should reflect what the typical consumer buys let s say that each month.
The typical consumer in each country. Buys. 2. Coconuts.
And 2 peaches. In france. This basket. Costs.
3. 3. 2. 2.
Or 10 in thailand..
It costs. 1 1. 4. 4.
That s also 10. The basket costs the same in both countries. We thus conclude that the two countries have equal price levels. Very nice but here s the thing we conveniently assumed that the typical consumer in each country buys the same stuff.
Which is unlikely given that in france. Coconuts are expensive and peaches. Cheap. While in thailand.
Coconuts are cheap and peaches expensive. Cheap buy more expensive. Buy less economists call. This brilliant insight.
The principle of substitution based on this principle. We expect frenchies to buy fewer coconuts and more peaches while thais buy more coconuts and fewer peaches so let s say instead that the typical french consumer buys. 1 coconut. And 3 peaches while the thai buys.
Coconuts. And 1 peach call these. The french and thai baskets. Let s see how much the french basket costs in each country in france.
It costs. 3 2. 2. 2.
Or 9. In thailand. It costs. 1 4.
4. 4. Or. 13.
This basket is cheaper in france than in thailand. We thus conclude that france is cheaper than thailand. Very nice hmm what if we instead compare the cost of the thai basket shouldn t make any difference right this basket will again be cheaper in france right wrong. In france.
The thai basket costs..
3 3. 3. 2. Or 11 in thailand.
It costs 1 1. 1. 4. Or.
7. This basket is cheaper in thailand than in france. We thus conclude that thailand is cheaper than france very nice. But this is the exact opposite conclusion from before what s going on why is the french basket cheaper in france and the thai basket cheaper in thailand.
Jeopardy music answer substitution bias here s how substitution bias works in. France. Peaches are cheap and heavily consumed. Not so in thailand.
And so by using the french basket for comparison. We incorrectly imagine that the thai buys fewer coconuts and more peaches despite living in a country with cheap coconuts and expensive peaches. We incorrectly imagine that the thai can t substitute. We thus overstate.
The thai price level..
This is substitution bias conversely in thailand. Coconuts are cheap and heavily consumed. Not so in france and so by using the thai basket for comparison. We incorrectly imagine that the frenchy buys more coconuts and fewer peaches despite living in a country with expensive coconuts and cheap peaches.
We incorrectly imagine that the frenchy can t substitute. We thus overstate. The french price level this again is substitution bias in the previous video. We looked at the problem of comparability aka.
The big mac problem in this video. We looked at the problem of substitution bias. By using one country s basket for comparison. We overstate the other country s price level like the big mac problem.
The problem of substitution bias has no perfect solution one limited remedy is to consider both countries baskets and take some sort of an average that s the basic idea behind fancy measures like the superlative fisher and t. Rnqvist indices in the next video. We ll look at how the world bank. Actually compares price levels across countries and why it often screws up royally econ cow econ cow is a new channel for educational videos mostly on economics.
I m still trying to improve so please feel free to leave me any feedback in the comments below. ” ..
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