What exactly is the consumer price index?


What exactly is the consumer price index?

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Take a bunch of commonly purchased consumer goods: foodstuffs, clothing, etc. Track the prices of those goods over time and take a weighted average of them. Now you can estimate how much an average person is spending to get by in any year compared to any other year that you have data. This is helpful for tracking inflation, as these staple goods are the most widely and regularly consumed, so inflation will show up here very clearly.

The consumer price index (CPI) is a way of measuring changes in the overall price of things for consumers in an economy.

If the CPI goes up and your income doesn’t then generally you won’t be able to buy as much stuff. Your “real income” has gone down.

The basic way the CPI is calculated is to pick a “basket” of goods representing what a typical household buys: different food items, energy, clothes, electronic, housing (at least in the CPI-H), etc.. Researchers find out typical prices for all these things. Statisticians weight them according to how much people will buy (you’ll buy bread more often than a new TV). That’s your baseline index .

After a period of time – typically a quarter – they measure the prices again index.

The difference between the two sets of prices is the change in the CPI. Usually this is described as an annual change – “the consumer prices index in Q4 2022 was up 10% compared to Q4 2021.”

There are plenty of complications, of course – the basket has to be periodically changed as people change their spending habits, it’s challenging to factor in changes in the *quality* of goods, and so-on.

A “basket” of goods that people buy as part of their regular lives and the retail price that the consumer pays for these items, so it is a measure of inflation that people will notice when they shop, leaving out many of the big value items that are purchased a few times in people’s lives.

It’s a way the government tracks inflation, by calculating the costs of a range of everyday items and services that average consumers buy. It includes about 80,000 items, including foods, apparel, transportation, housing, recreation, personal care, and more. They create the CPI basket of good through consumer polling to determine what they buy, and it does adjust over time as buying habits change.

When people want to talk about something like the “cost of living”, it can be really confusing because it’s not clear what kind of “living” we’re talking about.

Does it include housing? If so, where?
What kind of food does it include?
How about transportation?

The CPI attempts to answer all these questions by creating a detailed and concrete list of specific amounts of specific goods and services. Then it’s just a matter of checking the prices of those goods and services and adding them up.

It turns out there are actually several CPIs that are focused on different demographics and areas. For example https://www.bls.gov/opub/ted/2012/ted_20120302.htm is the breakdown for “the elderly”.

It lets you have measures of the cost of living that tries to be as consistent and objective as possible.