Promises, Promises: The States' Experience With Income Tax Indexing

Abstract

The paper discusses five early approaches to the price (and quantity) index number problem. The five approaches are: (1) the fixed basket approach; (ii) the statistical approach; (iii) the test or axiomatic approach; (iv) the Divisia approach and (v) the economic approach. The economic approach makes use of the assumption of optimizing behavior under constraint and the approach is discussed under four subtopics: (i) basic theoretical definitions; (ii) the theory of bounds; (iii) exact index numbers and (iv) econometric estimation of preferences. The paper also discusses several topics raised by Jack Triplett in a recent paper, including: (i) the merits of the test approach to index number theory, (ii) the chain principle and alternatives to it; (iii) the substitution bias and (iv) the new good bias. Although the paper is for the most part an extensive historical survey, there are a few new results in section 8 on multilateral alternatives to the chain principle. Also in section 6.3, it is shown that the Paasche, Laspeyres and all superlative indexes will satisfy the circularity test to the first order.