CHAPTER 2: PRINCIPAL PURPOSE OF THE PRODUCER AND INTERNATIONAL TRADE PRICE INDEXES
Introduction
User Views
Evaluation
Outcome

INTRODUCTION

2.1 In the Information Paper: Review of the Producer and International Trade Price Indexes, 2011 (cat. no. 6427.0.55.003), the Australian Bureau of Statistics (ABS) outlined that the Producer Price Indexes (PPIs) and International Trade Price Indexes (ITPIs) may be designed to support principally either one of two purposes. The first purpose is to support National Accounts and Balance of Payments compilation (as defined by the 2008 System of National Accounts (2008 SNA), and Balance of Payments and International Investment Position Manual, sixth edition (BPM6) statistical framework). The second purpose is to support inflation monitoring and analysis of the economy as a whole (in total).

2.2 Many outcomes of the review of the PPIs and ITPIs are guided by the fundamental decision on principal purpose.

2.3 When PPIs and ITPIs are designed to support the compilation of the National Accounts and Balance of Payments, the most coherent basis for price indexes includes all transactions occurring within an economy, that is, total inputs and outputs (products) at each industry level. As the coverage of each industry is complete (i.e. includes all transactions) the indexes are termed gross industry indexes. The current Australian PPIs are gross industry indexes.

2.4 As products flow through different production processes within an industry, price movements will be counted multiple times. As a result, gross industry indexes are not principally designed for inflation monitoring.

2.5 An example of a gross industry indexes is as follows. Transactions captured for a motor vehicle manufacturing gross industry index would include both the sales of the parts (this includes sales of parts to other businesses within the same industry) and the sales of the finished cars, even though the price change of the parts would be included in the price change of the finished cars.

2.6 An alternative to indexes compiled on a gross industry basis are indexes compiled on a net industry basis. When indexes are compiled on a net industry basis, instances of multiple counting of price movement are removed for a given industry. Net industry price indexes exclude intra-industry transactions in a manner similar to a set of consolidated accounts of a group of enterprises.

2.7 Therefore, a net industry price index for a specific industry is restricted to transactions outside that industry, used as capital, exported (for an output index) or imported (for an input index). The resultant price indexes are a representation of the inflationary pressure experienced or created by the industry as a consolidated unit.

2.8 Following on from the earlier example, a motor vehicle manufacturing net industry index would measure only the price change of motor vehicles sold to other industries of the economy and would exclude the price change of the parts (sold to businesses in the same industry) as a separate product.

2.9 The earlier Review information paper (cat. no. 6427.0.55.003) concluded that the principal purpose of the PPIs and ITPIs is to support the compilation of the National Accounts and Balance of Payments. PPIs should therefore continue to be constructed on the gross industry basis. The rationale for this decision is discussed below. Another purpose, to support inflation monitoring, is provided by the ABS Stage of Production (SOP) indexes and evaluated in Chapter 3: The future suite of Producer and International Trade Price Indexes.

2.10 The distinction between gross and net industry indexes is not applicable for the ITPIs, as the price measurement occurs for the products traded with other countries.

USER VIEWS

2.11 While international literature does not promote any single conceptual approach for compiling PPIs, internal and external (to the ABS) users were unanimous in their view that PPIs and ITPIs must support the compilation of the National Accounts and Balance of Payments compilation as the principal purpose.

2.12 Some external users noted that the Consumer Price Index (CPI) and some other data sources were the main indicators for inflation monitoring, and that this type of analysis was seen to be a secondary purpose of the PPIs.

2.13 While there were no calls for net industry PPIs to be released, there was interest in the practical difference between price indexes compiled on a net versus a gross industry basis.

EVALUATION

PRICES, VOLUMES AND QUALITY CHANGE - THE RATIONALE FOR GROSS INDUSTRY INDEXES

2.14 Taking into account user input, the ABS has concluded that the principal purpose of the PPIs and ITPIs is to support the compilation of the National Accounts and Balance of Payments. The rationale for the decision retaining the gross industry index basis is outlined below.

2.15 Gross Domestic Product (GDP), the headline statistic of the National Accounts, and other key economic statistics are expressed as chain volume measures (CVMs), represented as dollar amounts to ensure comparability across products. Economic transactions are usually recorded as the value of the transaction. This value represents the volume of the product produced or consumed multiplied by the price per unit of volume. These unit prices and volume components are indistinguishable in the observed transaction value and need to be calculated. In economic statistics, CVMs are typically derived by dividing an observed transaction value by a price index.

2.16 The volume component is made up of the number of units and any quality change in the product. If the number of consumed or produced units for a given period is known, the value of units can be divided by the number of units to calculate a price per unit. However, if data from two periods are compared and a unit in one period is of a higher quality than a unit in the other period, the higher quality unit should be reflected as a higher volume.

2.17 In order to calculate the desired CVMs which includes quality change, quality change must be excluded from the price index used. This means that the change in price represented by the index is not always the observed unit price change in price of the unit. If the quality of the unit increased, the price index will show a change lower than the observed unit price change. Detailed background on quality change methodologies can be found in Information Paper: Producer and International Trade Price Indexes, Concepts, Sources and Methods, 2006 (cat. no. 6429.0).

2.18 Pure price indexes, that is, price indexes which hold the quality constant over time, such as the PPIs and ITPIs, are the type of indexes required to derive the CVMs of, for example, output (gross output i.e. products produced by the economy) and intermediate consumption (products used by the economy to produce its gross output). It is for this reason that the ABS gives priority to the use of PPIs and ITPIs in the compilation of the National Accounts and Balance of Payments in determining the principal purpose of the indexes.


A COMPARISON OF GROSS AND NET INDUSTRY INDEXES

2.19 The ABS conclusion on the principal purpose will not result in any change to the current PPI compilation methodology. However, users requested information on the practical relevance of price data compiled to suit the two different principal purposes. The ABS has compiled an analytical net industry Materials Used in Manufacturing Industries (MUMI) index to compare with the currently published gross industry MUMI index. The comparison was made over the September quarter 2009 to the December quarter 2011 period. This analysis is presented in Appendix 1: Comparison of net and gross industry indexes.

2.20 Gross industry indexes are conceptually preferred for National Accounts compilation. The results of the analysis show that there is a difference between the published gross industry MUMI index and the analytical net industry MUMI index over the analysis period. This suggests that the use of net industry indexes for deflation purposes would result in the reduced accuracy of the National Accounts estimates. Furthermore, there is a lack of user demand for indexes compiled on a net industry basis.

2.21 Chapter 3: The future suite of Producer and International Trade Price Indexes, found that the current compilation basis of the gross industry PPIs and ITPIs supports the principal purpose. However, the ABS will improve the coherence of the PPIs inflation measures with the 2008 SNA by compiling them on a basis that represents an industry, rather than a grouping of products sold across many industries. Industry based indexes will directly improve the accuracy of the quarterly National Accounts.

2.22 The analysis in Appendix 1 and the outcomes of Chapter 3 have highlighted the importance of accurately measuring inflation at an industry level. This has prompted a clarification of the principal purpose.

OUTCOME

2.23 The ABS has determined that the principal purpose of the PPIs and ITPIs is to measure inflation by industry to support the compilation of the National Accounts and Balance of Payments. This requires that their compilation be on a basis coherent with the 2008 SNA and BPM6 statistical framework and on a gross industry basis, and is consistent with supporting other purposes of the PPIs and ITPIs.