Tutorial: How do “various individual items” contribute towards inflation?
Inflation index consists of various components. Each component holds a certain weight in the index and priced differently as well.
For instance, we have two items A and B, each priced at Rs 200 each in the INDEX which gives 40 per cent weight to A and 60 per cent to B.
INDEX = (0.40 X A + 0.60 X B)
As A and B are Rs 200, so INDEX = 200
After some time when inflation increases, A come out as 220 with 20 per cent inflation and B is recorded at 205 with 5 per cent inflation.
Now INDEX = (0.40 x 220 + 0.60 x 205) = 88 + 123.5 = 211
INDEX has increased from 200 to 211, which is 11% inflation.
Individual Contribution of A and B
We now want to know how much Inflation was caused by A and B respectively.
A changed from 200 to 220. With weight of A being 40 per cent, effective index impact comes out as 20 x 0.40 = 8 points.
So, A was responsible for 8 points from total change of 11 points.
Contribution of A = 8/11 = 73 per cent of the index change.
Similarly B = 3/11 = 27 per cent of index change.