The $100 you just spent at the grocery store bought 4% less than it did one year ago. Why is that? The consumer price index (CPI) helps answer this question, as it measures inflation, the economic phenomenon that slowly erodes the purchasing power of your hard-earned dollars.
What Is CPI?
CPI tracks the rate of change in U.S. inflation over time. This key economic metric is based on prices that consumers pay for goods and services throughout the U.S. economy. The percentage change in CPI over a period of time is referred to as the inflation rate.
The U.S. Bureau of Labor Statistics (BLS) releases a monthly CPI report that includes statistics about how the prices of different goods and services change over the last month and the last 12-month period.
In addition to the headline data, there is also something called “core CPI” inflation. This measure offers a more stable reading on inflation because it strips out food and energy prices from the calculation. Prices of these goods tend to see sizable and unpredictable changes month to month that have little to do with consumer demand.
What Is the Latest CPI Inflation Reading?
The most recent CPI data was released on January 11, 2024, covering the month of December. The December CPI annual inflation figure was 3.4% before seasonal adjustment. This means the cost of a basket of goods and services in the U.S. increased by an average of 3.4% from December 2022 to December 2023. This was higher than November’s figure before adjustment, which came in at 3.1%.
The December core CPI reading was 3.9%. This was less than the November core CPI reading, which was 4.0% before seasonal adjustment. This is well off the 40-year high from September 2022, which came in at 6.6% for the 12 months ending in September 2022.
How Is CPI Calculated?
CPI is calculated by tracking the change in the prices of a fixed basket of goods and services.
The BLS refers to a variety of sources to calculate CPI, including the prices of goods and services from about 23,000 retail and service establishments throughout the U.S. It also collects data from about 50,000 landlords and tenants to determine the changes in the price of rent.
The basket of goods and services used for CPI includes popular items that Americans regularly purchase. The value of the items is proportional to how they are sold. The current cost of the basket is compared to its cost in the prior year, and then multiplied by 100 to determine the percentage.
Annual CPI = (value of basket in current year / value of basket in prior year) x 100
The calculated CPI is then used to determine the inflation rate.
Inflation Rate = (CPInew – CPIold) / CPIold x 100
How CPI Affects You
CPI figures might seem pretty abstract, but they reflect the very real price changes that affect every aspect of your day-to-day spending. CPI impacts your finances by:
- Measuring your purchasing power. CPI illustrates how much each dollar you earn can buy. As inflation drives up prices, the purchasing power of your money declines—that means you’re able to purchase fewer goods and services than you did previously with the same amount of money.
- Guiding economic policy. CPI is an economic indicator, a tool used to determine the impact of government economic policy. The Federal Reserve prefers a different measure of inflation—the personal consumption expenditures price index (PCE)—but it also pays attention to CPI. The Fed has begun raising interest rates due to high inflation.
- Determining government benefits. The federal government uses the CPI inflation rate to adjust payments for programs like Social Security (COLA), food stamps and public school lunches. It also uses the CPI to adjust income eligibility levels to participate in social programs.
- Driving salary increases at work. Private companies look at CPI inflation when deciding how much to increase employees wages every year. CPI data is a reliable metric for keeping prices and wages in line with competitors.
Breaking Down the Monthly CPI Report
The monthly CPI report includes inflation rates for various goods and services, as well as the rate of inflation in various regions across the United States.
The monthly CPI report starts with a summary of the findings, including how much inflation either increased or decreased for the month prior, followed by the average change in prices over the past 12 months.
The report includes information about which categories drove the increase or decrease in prices; in August 2023, for example, an increase in gasoline prices contributed to more than half of the overall increase in the inflation rate.
Trends will also be noted in the CPI report about how the most recent findings compare over time, for both individual indexes and the overall inflation rate.
Information about food and energy price increases are both summarized in the beginning of the report, since these two categories directly impact consumers. Core inflation, which refers to inflation minus food and energy prices, comes next.
The CPI report includes a number of tables that break down how various goods and services increased over the past month, as well as the past 12 months. Everyday items, such as meat, vegetables, cleaning supplies and even clothing are tracked. The report also prices for used and new cars, rent and medical care.
It’s important to note that there is also seasonally adjusted data included in the CPI. Though this data isn’t what’s focused on in news reports, it exposes underlying trends in short-term price changes. Seasonally adjusted data strips out annual factors that affect prices, such as the busy summer travel season, which pushes up airfare costs.
Limitations of the CPI
Though the CPI is widely used as a tool to evaluate the overall health of the economy, it has limitations in what it reports and who it represents.
For example, the CPI only measures inflation for U.S. urban populations, thus leaving out the inflation experience of people living in rural areas. It also doesn’t include estimates of how different subgroups are experiencing inflation, such as the elderly or those living in poverty. By creating blanket assumptions of how people across varying demographics are experiencing inflation, monetary policy can’t fully capture or reach the needs of these different subgroups.
The CPI also includes substitution bias, which means it can overstate how much the cost of living has changed. For example, if the CPI captures a large increase in the price of an item, it doesn’t take into account people substituting that item for a cheaper one. Not taking this into account wrongly assumes that people continue to buy the more expensive item and experience a higher inflation rate than what they’re actually enduring.
Why Is CPI Important?
CPI is an important tool that aims to illustrate the changes in cost of goods and services over time. The official inflation rate is the calculation of changes in the CPI over a period of time.
While the CPI may seem like complicated economic data, it impacts consumers in a variety of ways, from capturing their purchasing power to determining eligibility and payment amounts of government programs.
CPI gauges the overall health of the U.S. economy, and it’s the most popular economic indicator that people use to demonstrate how much prices are rising or falling.
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