Although index numbers are very useful to business and industry, they suffer from the following limitations:
(1) Bias in the Data : Index numbers are constructed on the basis of various types of data. If the data is not collected properly, we may not get proper index numbers.
(2) Misuse of Index Numbers: Index numbers can be misused. We compare the index numbers with the base year. Hence a person may choose a base year which is suitable forhis purpose. A businessman may use a base year in which profits are high and show that his profits are falling now.
(3) Based on Samples : Index numbers are based on samples so it cannot include all the items in the consideration of index numbers. Hence index numbers are not free from sampling errors.
(4) Defects in the Formulae : There are number of formulae, but every formula suffers from some defects. Index number is an average , so index number may have the same limitations which an average may have.
(5) Changes in the Economy : In the long run, habits, tastes and expectations of people change, so it is difficult to incorporate all these changes in index numbers. For a good index number items should remain the same price wise over a period of time. But this is practically not possible.
(6) Neglecting Qualitative Change : The index number of price (or) production (or) quantity may ignore the change in quality of the commodities which may be significant at any point of time. A better quality commodity will cost more than an inferior commodity. So a rise in the price index may be due to an improvement in the quality and not due to a rise in prices.
(7) Arbitrary Weights : The weights (relative importance) assigned to different commodities may be random.
(8) Limited Scope : An index number is useful for the purpose for which it is designed. So its use is limited only to that phenomenon and not for another purpose.
