Yes, certain important issues should be kept in mind, while constructing an index number.
Those issues are mentioned below.
1. You need to be clear about the purpose of the index. The calculation of a volume index will be inappropriate when one needs a value index.
2. Besides this, the items are not equally important for different groups of consumers when a consumer price index is constructed. The rise in petrol price may not directly impact the living condition of the poor agricultural labourers. Thus the items to be included in any index have to be selected carefully to be as representative as possible. Only then you will get a meaningful picture of the change.
3. Every index should have a base. This base should be as normal as possible. Extreme values should not be selected as base period. The period should also not belong to too far in the past. The comparison of between 1993 and 2005 is much more meaningful than a comparison between 1960 and 2005. Many items in a 1960 typical consumption basket have disappeared at present. Therefore, the base year for any index number is routinely updated.
4. Another issue is the choice of the formula, which depends on the nature of question to be studied. The only difference between the Laspeyres index and Paasche’s index is the weights used in these formulae.
5. Besides, there are many sources of data with different degrees of reliability. Data of poor reliability will give misleading results. Hence, due care should betaken in the collection of data. If primary data are not being used, then the most reliable source of secondary data should be chosen.
