When prices are rising,
A) The Laspeyres index tends to overstate the increase in the cost of living because of the substitution bias
B) The Laspeyres index tends to understate the increase in the cost of living because of the substitution bias
C) The Laspeyres index tends to overstate the increase in the cost of living because of the compensating variation bias
D) The Laspeyres index tends to understate the increase in the cost of living because of the consumer preference bias

Question

Quizplus · Accepted Answer

The Laspeyres index uses a fixed basket of goods and does not account for consumers substituting cheaper goods when prices rise, leading to an overstatement of the cost of living increase.

When Prices Are Rising