The Effects of Price Aggregation Bias in Systems of Demand Equations

This article illustrates the importance of maintaining consistent levels of aggregation between prices and quantities when estimating consumer demand functions. The impact of violating this condition is quantified by using summary performance measures and estimates of demand elasticity biases. Results derived from an application of 1972–1973 Consumer Expenditure Survey data and supported with a quasi-Monte Carlo experiment consistently indicate that the point estimates of demand elasticities are significantly biased. Thus the study indicates the importance of developing and maintaining price indexes disaggregated to the same level as the expenditure data in consumer expenditure and budget surveys.