The Consumer Price Index provides a measure of aggregate price change in the U.S. economy. It is used in the process of calculating the rate of increase in general consumer prices, often known as inflation.
What Is the CPI?
The Consumer Price Index, also known as the CPI, is measured by the changes in the prices that consumers paid for a representative basket of goods and services that reflects typical consumer buying patterns. This index is published every month by the Bureau of Labor Statistics of the United States of America. Separate indices are offered not just for the United States as a whole, but also for certain geographic regions, as well as for food, gas, and utilities.
Inflation may be defined as a reduction in buying power due to an increase in overall prices for goods and services. The consumer price index (CPI) is the most common and extensively used indicator of inflation. The inflation rate is the most popular way to assess inflation. This rate is defined as the percentage change in a price index such as the CPI during a specific period of time in comparison to that of an earlier period. One year is the most typical time frame to work with.
Note: The Consumer Price Index had a year-over-year rise of 8.5% in March 2022, which represents the highest increase in that index in the last 40 years.
The rate of rise in the Consumer Price Index (CPI) for the whole United States is shown in the graph that can be seen above. Both the Great Recession of 2008 and the smaller recession that happened in 2020 as a direct consequence of the Covid epidemic are shown by the two grey sections in the graph.
The Bureau of Labor Statistics has created a graph that illustrates how the Consumer Price Index (CPI) has changed over the last 20 years in various parts of the nation. In the month of April 2022, for instance, the rate of inflation was more than 10% for those living in the Mountain West.
How Often CPI Is Updated
The Bureau of Labor Statistics (BLS) conducts a survey of the companies that provide it with data once every two years in order to revise the contents of the “basket” of products and services that it monitors. If you are interested in knowing when the BLS will publish its most recent CPI, the BLS publishes a calendar of the days on which it will publish new CPIs.
CPI vs. PPI
In addition, the Producer Price Index (PPI), which is a measurement of producer prices within the economy of the United States, is published by the Bureau of Labor Statistics of the United States. Prices at the wholesale level are reflected in the PPI, while prices at the level of the consumer are reflected in the CPI.
What’s in the Consumer Price Index?
The Consumer Price Index (CPI) is computed by combining the prices of approximately 100,000 goods and services purchased from thousands of retail and service enterprises, in addition to the rates of rent for 43,000 rental dwelling units. The statistics on rentals are extended to include the expenses spent by homeowners, and these calculations are used to determine the overall cost of shelter as well as the proportion of total consumer expenditure that is allocated to housing. Each month, the prices of around 80,000 different goods, including those of online retailers, are compiled from various sources.
The Bureau of Labor Statistics (BLS) really releases two different CPI indexes:
1. The Consumer Price Index for All Urban Consumers (CPI-U)
Covers 93% of the population of the United States but does not include those who live in rural areas, such as on farms or military bases; it is the index that is reported the most and is the index on which changes in the principal of Treasury Inflation-Protected Securities, or TIPS, are based. Those living in rural areas are not included in this index. When inflation is strong, investors in TIPS get greater interest payments, and when the securities mature, they are also given a higher principal amount.
2. The Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W)
Participants in this index are required to fulfill two additional requirements in order to be eligible: more than one-half of the household’s income must come from clerical or wage occupations, and at least one of the household’s earners must have been employed for at least 37 weeks in the year prior to participating in this index. Approximately 29 percent of the entire population in the United States is comprised of people who participated in the CPI-W.
Basket of Goods & Services
The Consumer Price Index (CPI) market basket is produced from in-depth information on real purchases made by around 24,000 individuals and families throughout the country. The contents of the basket may be broken down into a few key categories: food and drinks, housing, clothes, transportation, medical care, recreational opportunities, educational opportunities, and communication. The categories are then subdivided even further; for instance, food that is produced at home is a distinct category from food that is consumed outside the house, and the price of gasoline is differentiated from the costs of other forms of energy such as electricity, piped gas, and fuel oil.
The Bureau of Labor Statistics assigns a certain weight to each category so that it may convey the relative relevance of that category to the typical customer. For instance, it provides a somewhat larger weight to food that is made at home as opposed to food that is consumed elsewhere.
Taxes such as sales and excise taxes are included in the Consumer Price Index (CPI), but income taxes and Social Security taxes are not. Also excluded are assets like stocks, bonds, real estate, and life insurance due to the fact that these things are more closely associated with financial planning than with day-to-day spending.
How to Calculate the Inflation Rate
The rate of inflation may be determined using the following formula:
Calculating the Rate of Inflation: ((C – P) / P) x 100
C = the current price of all products and services that were evaluated
P = the prices from the prior period; the standard time ranges are one month and one year.
How the CPI is Used
- An economic indicator: The Consumer Price Index (CPI) is the most generally used indicator of inflation, and it impacts choices made by the government as well as businesses, labor unions, and individual consumers. The CPI is used in the process of formulating fiscal and monetary policies by the President, Congress, and the Federal Reserve Board.
- A deflator of other economic series: The Consumer Price Index (CPI) is a key indicator that economists use to convert price changes in other series, such as retail sales and hourly and weekly wages, into dollars that are unaffected by inflation.
- A way to adjust consumers’ income payments: The Consumer Price Index (CPI) is used to alter the income qualifying thresholds for government assistance programs and to automatically pay cost-of-living salary increases to Social Security recipients, members of the armed forces, and retirees from the federal civil service. In addition to this, the CPI is used in the process of selecting candidates for the food stamp program and the school lunch program for children.
- A way to adjust the Federal income tax structure: Because of these modifications, individuals’ income tax brackets will not be raised as a result of increases caused by inflation.
Core CPI
The “Core CPI,” also known as the “Consumer Price Index for All Urban Consumers: All Items Less Food and Energy,” is an accumulation of the prices that urban consumers paid for a representative basket of goods and services. However, the Core CPI does not include the costs of energy or food. Economists sometimes rely on the core Consumer Price Index rather than the CPI-U. This is due to the fact that the costs of food and energy tend to fluctuate frequently, and the core CPI enables economists to concentrate on the “underlying” or “core” rate of inflation.
Importance of the Consumer Price Index
- The Consumer Price Index (CPI) is often seen as an indication of the efficiency of the economic policy that is currently being implemented by the government.
- The Consumer Price Index (CPI) is used both in the process of adjusting Social Security benefit payments and in the process of determining income qualifying thresholds for various forms of government assistance.
- It is used in the evaluation of eligibility requirements for millions of people who get food stamps, as well as children who participate in school lunch programs.
- It is used by millions of employees in the United States as the foundation for cost-of-living salary increases.
- The Consumer Price Index (CPI) is used to update federal income tax brackets in order to avoid increases in tax rates caused by inflation.
- When determining whether or not to raise or cut interest rates, the Federal Reserve takes into account many factors, including the CPI.
- Wage increases are often linked to the Consumer Price Index (CPI) in collective bargaining agreements.
Bottom Line
It is essential for investors to have a solid understanding of both what the Consumer Price Index is and where they may get information about it. Investors are able to make judgments that are better informed as a result of being able to determine the present rate of inflation or deflation, as well as evaluate historical trends in consumer spending patterns and forecast future spending patterns.
