A Chain-Type Price Index for New Business Jet Aircraft: Industry-Specific Price Indices Yield Valuable Insights

Cho, Dong W., Business Economics

This paper presents a price index constructed to measure the real price and real output of corporate business jet aircraft. It employs a chained price index methodology to properly account for the effect of changes in aircraft quality and product lines on the price index. The index indicates that the average price level of corporate jets has significantly outpaced the general price level measured by the GDP deflator, nearly doubling the real price of the product over a 35-year period from 1968 to 2003, which could have negatively affected the demand for the product. Because the GDP deflator significantly understates the price increase in corporate jets, the industry's real output is overstated when its nominal sales are deflated with a general price index. The paper suggests that an industry-specific price index allows more accurate analyses of real economic activity of an industry. The methodology used in this paper could be useful for other industries where product price movements vary significantly from the changes in the general price level.

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Measuring economic activity with price and quantity indexes has greatly enhanced the empirical content of economic analysis. The GDP deflator, for example, provides two critical pieces of information about the economy. First, it indicates the rate of inflation, or the real value (i.e., the purchasing power) of money over time. Second, it permits measurement of the real economic activity level measured in constant dollars (i.e., real GDP).

An individual industry's price index provides the same key pieces of information concerning economic activity of the industry. First, the average price of an industry's output relative to the overall price level is the real price of its output. As such, the trend and fluctuation in the real price of individual products indicate important characteristics of the market, such as, demand, competition, product innovations, and pricing strategies of the manufacturers.

Second, the index permits the measurement of real output of the industry. Real output to an individual industry is what real GDP is to an economy--a truer measure of economic activity of the industry than nominal output. It is therefore important to manufacturers, their marketing arms, employees, regulators, and consumers.

It is also important to recognize the potential value of a price index in investigating a host of research questions such as the demand for and the supply of products, the competitive nature of an industry, determinants of market shares, and the effectiveness of different pricing strategies. Indexes in themselves cannot answer these questions, but they are critical pieces of information when formulating tests of different theories and models of industry performance.

While individual industries have the same need to measure and analyze their economic activity, price indexes are not typically available at the industry level. (1) The Bureau of Economic Analysis updates price and output measures for industry groups to determine the contributions different industries make to overall output and price growth (Yuskavage, 1998; McCahill and Moyer, 2002). However, the industries are too broadly defined to provide average price measures for specific industries.

This article presents a price index for new business jet aircraft manufactured and sold by the general aviation industry. It also illustrates what can be done to calculate price indexes for other specific industries, data permitting.

Alternatives to Industry-Specific Price Indexes

Without a price index specific to an industry, there are three possible, but inadequate, methods of quantifying real industry activity over time. For business jet aircraft, one option is to use total units of aircraft delivered per quarter or year. This is an incomplete measure of real output because the industry regularly introduces new models that are entirely new or significantly modified, while discontinuing existing models that are no longer viable. Thus, the sales mix can change dramatically from year to year because of product introductions and deletions. (2)

Another approach is to deflate dollar sales using a broad measure of inflation such as the GDP deflator to derive a measure of real output. However, unless the GDP deflator and the industry's average price level follow a similar growth path, this measure of an industry's real output will not provide an …

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Publication information: Article title: A Chain-Type Price Index for New Business Jet Aircraft: Industry-Specific Price Indices Yield Valuable Insights. Contributors: Cho, Dong W. - Author. Journal title: Business Economics. Volume: 41. Issue: 1 Publication date: January 2006. Page number: 45+. © 1999 The National Association of Business Economists. COPYRIGHT 2006 Gale Group.

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