The Re-design of the Dutch CPI Jan de Haan Statistics Netherlands Geneva, May 2006

Contents – Background – Aim and foundations of the future CPI – Introduction of the annually chained CPI – Implementation of the matrix of transaction categories – Extending the scope with health care – Possible future improvements

Background Research; Boskin report; new CPI Manual Early 2004: expert group report End of 2004: start project ‘Re-design’ – first phase: pilot studies – second phase (late 2005): implementation of new methods and process innovations

Aim and foundations of the future CPI (1) CPI guided by cost of living index theory framework of a conditional cost of living index (COL) – COL-theory is grounded in mainstream economic theory (no ‘measurement without theory’) – CPI differs from HICP (concepts, target population, scope)

Aim and foundations of the future CPI (2) Target population all private households (every five years a study into CPIs for sub-groups) Scope – ‘out-of-pocket payments’, including casualty insurance, owner-occupied housing (rental equivalence approach), and ‘consumption-related taxes. Soft drugs etc. in the future? – prices should be known to the buyer at the time the transaction takes place: retrospectively adjusted tariffs are excluded

Aim and foundations of the future CPI (3) Population model CPI will no longer rest on a single model describing the all-items index in terms of the prices and quantities of individual products (‘hybrid approach’) Matrix of transaction categories Elementary aggregates or transaction categories: COICP x type of outlet. Adjustments (updating samples etc.) and index number formulas depend on market circumstances Upper level: adjustment of the number of transaction categories when necessary; annual updating of weights; National Accounts as primary source

Aim and foundations of the future CPI (4) Data collection – aimed at acquiring transaction data, preferably in electronic format, e.g. scanner data – optimal mix between electronic data and field collection Outlet sample re-design necessary (rotating sampling scheme?) ‘Loose product specifications’ first selection of outlets and next selection of specific varieties within sampled outlets

Aim and foundations of the future CPI (5) Quality adjustment – select replacement models that are representative for current market circumstances (instead of models that resemble the ‘old’ models) – collect product characteristics to asses how models differ and to employ explicit quality adjustment methods (e.g. hedonic regression) – ‘loose specifications’ increase the need for explicit adjustments at the level of model-outlet combinations

Introduction of the annually chained CPI (1) Requirements – a continuous CPI series with a fixed index reference period – no revisions – no difference between CPI and HICP in this respect Future CPI (January 2007) will be a Lowe-type index, which is chained annually. Weights (preliminary figures from National Accounts) refer to t-2. Re-sampling of products and outlets in a continuous way

Introduction of the annually chained CPI (2) Properties of the chain index – not consistent in aggregation – chain CPI and annual ‘inflation rate’ depend on two sets of quantities or weights (t-2 and t-3) – chain CPI and inflation rate are path dependent – inflation rate fails the identity test (not necessarily equal to 1 if prices in month m of year t and t-1 were identical) However, latter effect seems negligible in practice

Matrix of transaction categories (1) Rows: detailed COICOP categories Columns: types of outlets Aim: detailed weighting scheme and sampling frame for outlets General Business Register can serve as the basic sampling frame for most types of outlets (reasonably complete and up-to-date; comparability with related statistics)

Matrix of transaction categories (2) Preliminary version (January 2007): only weighting scheme Possible problems – lack of accurate data – cells with few observations In any case: use of explicit cell weights is an important step forward – increases homogeneity at the elementary aggregation level – may help improve outlet sample per cell

Extending the scope with health care (1) Health care reform January 2006 – compulsory basic scheme for the total population – additional packages (freedom of choice) Reasons to include additional health care insurance in the CPI – ‘out-of-pocket expenditures’ – comparability with HICP and National Accounts – prices (premiums) can easily be obtained; no retrospective tariff changes

Extending the scope with health care (2) Concept of output for casualty insurance industry – HICP and NA: pooling risks (net premium approach) – CPI: assumption of risk (gross premium approach) Balk (1993): “ For example, a right is acquired when one is entitled to reimbursement of (all or part of) the cost due to fire, theft, car damage etc. Whether and when such rights are to be executed differs between the households.” Health care (additional insurance) in the CPI: it is the right to receive a certain treatment in case of illness, disease etc. that matters

Extending the scope with health care (3) Dealing with changes in coverage, for example increase in coverage of additional health care insurance – CPI: ‘new’ goods introduced during next base year revision (next year in chain CPI) – HICP: prices of ‘new’ goods are raised from zero to some positive value; measured inflation will increase In practice (CPI): asking insurers to provide estimated premiums for a sample of policies of which the premium characteristics are held constant

Extending the scope with health care (4) Quality adjustment Premium change should in principle be adjusted for changes in the quality of the goods and services, or treatments, policy holders may or may not receive (and for changes in risk) In practice, however, no explicit quality adjustments Introduction of insured medical care in CPI at the same time as introduction of chain CPI

Possible future improvements – Re-design of outlet sample and construction sampling frames – Further work on matrix of transaction categories – Introduction of ‘loose specifications’ and geometric index at elementary (cell) level – Extending the use of explicit quality adjustments (e.g. hedonic regression) – Extending the use of scanner data (more supermarkets, chains selling household appliances etc.) – Building a new, flexible automated system