How to Define the Consumer Perceived Price Index? An Application to Polish Data

Inflation perceived by consumers may differ from official statistics, particularly due to different baskets of goods and services that lay people and statisticians consider and due to consumer loss aversion to price increases. Such effects, as suggested by the prospect theory, are confirmed in many empirical studies showing that consumers' perceptions are substantially influenced by prices of frequent purchases and that price increases are perceived more strongly than price reductions. Following those observations, alternative consumer price indices were proposed, such as the out-of-pocket price index (ECB 2003) or the index of perceived inflation (Brachinger 2006, 2008). They proved particularly useful in interpreting a jump of inflation perception in some of the Economic and Monetary Union (EMU) economies after the euro introduction. The role of price changes of frequently bought goods and services in determining consumer opinions on price changes also seems significant in Poland, as revealed especially after its accession to the European Union (EU) in 2004. To assess whether their impact on subjectively perceived price changes is of a systematic nature, in this paper we develop different types of indices of price changes that are likely to influence consumer opinions on observed price developments. Then we evaluate them in terms of their impact on consumer inflation perception, as proxied with survey data, and define on this basis the best-performing index, called the consumer perceived price index (CPPI). The results suggest that Polish consumers observe a relatively wide range of goods and services and that both factors suggested by the prospect theory seem to influence their opinions on the evolution of prices in the past.