The economy may seem like an enigma when you first begin looking at it. It seems to fluctuate with no rhyme or reason, and there is a whole host of information that is out there that seems entirely useless because you don’t know how to use it.
With some extra research, you can understand what you need to know about the economy. In this article, we are going to discuss what the consumer price index is and what it has to do with inflation.
What is the Consumer Price Index?
This is also referred to as the CPI, and it is a measurement of the changes over time of the price of goods and services for urban consumers. The CPI is a numerical value that is calculated through an equation:
CPIt=CtCo*100
In this equation, CPIt is the current CPI.
Ct represents the cost of a goods or service in the current period.
Co represents the cost of goods and services in the base period.
Here are some excellent examples of calculating this value that will give you an idea of how a CPI works.
Who is Responsible for This Value?
The Bureau of Labor Statistics is the agency that calculates and releases the consumer price index. Each month, the bureau collects about 94,000 prices from around 23,000 retail and service establishments.
These values are collected from areas that cover 93% of the nation’s population. So despite it being advertised as relating to urban values, it covers much of the population.
Producer Price Index
When you are looking for the CPI, you need to look out for the producer price index. The producer price index is a value that is also released by the BLS, and is calculated similarly. Because of this, the values may be easy to confuse.
You want to ensure that you are looking at the CPI, as it covers the values and prices related to you as a consumer. The PPI covers the values and prices for producers to purchase what they need in order to provide their services or sell their goods.
Here is an article from the Bureau of Labor Statistics that is designed to help you understand the differences between the CPI and the PPI.
What is the CPI Used for? What Does it Have to Do With Inflation?
The CPI is most commonly used to measure inflation. Inflation is a general increase in the prices of goods and services paired with a decrease in the value of money. Inflation comes and goes in cycles, and we are in a phase of inflation currently.
Essentially, the CPI indicates a change in the cost of living over time. By keeping a close eye on the value of the CPI every month, we can detect when inflation is taking place, and we may even be able to predict when it is coming.
The CPI is also commonly used as a tool for financial markets, policymakers, consumers, and businesses. All of these groups use the tool slightly differently, but they all have the same goal: to keep track of the changes in prices of goods and services.
If you would prefer a video on the subject here is an excellent YouTube video from the Wall Street Journal: https://www.youtube.com/watch?v=oRdLvp6H3CU
Why Does the CPI Matter to me?
Keeping an eye on the economy can help you to be prepared for whatever comes your way. Keeping an eye on the CPI will help to keep you informed on what is going on in the world around you, which is empowering.
Consumer Price Index Frequently Asked Questions
The CPI can be confusing, so let’s take a look at some frequently asked questions. If your specific question is not answered in this information, take a look at the Consumer Price Index area of the BLS site for an abundance of information.
Who’s buying habits does the CPI reflect?
The CPI is designed to closely reflect the urban populations of the US. This value represents about 93% of the US population. Within that 93% all different types of people, from different lifestyles, are represented.
This representation spans from professionals, to the unemployed, to the retired population.
How are taxes handled in the CPI?
Taxes that are associated with the purchases of certain goods and services are automatically factored into the appropriate category of the CPI.
Taxes that are not associated with the purchases of goods and services, like social security and income taxes, are excluded from the CPI.
What are some of the CPI’s limitations?
The CPI is an excellent tool, but like most things, it has its limitations.
The CPI is limited in its application in more rural areas, as the values found only cover the changes in price in the urban populations.
It is also not perfectly representative of some populations of people, like the elderly. Upon request, a CPI for this subgroup can be provided, but it is not entirely accurate.
The last limitation is simply limitations in measurement. These can be broken down into sampling and non-sampling errors. In short, there is no perfect way to calculate this value, so there are always small margins of error that are to be expected.
What goods and services are accounted for in the CPI?
The CPI is calculated based on a ‘basket’ of goods and services that represent the average spending of a US household.
The eight major groups that are accounted for are apparel, housing, food and beverages, medical care, recreation, transportation, education and communication, and other goods and services.
Conclusion
The CPI is a value that is designed to help you keep track of the average price of a basket of goods and services.
It is calculated and released monthly, and the average consumer is able to use it to watch the changes in prices, like those that may indicate inflation.
