06) Economic Indicators: Consumer Price Index (CPI)

by · October 16, 2010

What It Is

The Consumer Price Index, or CPI, is considered one of the most important indicators in the country. It determines the rate of inflation in the economy. The goods from which the CPI is measured remain consistent every time the price is measured, in order to accurately assess changes in price that may occur.   The report is released by the Bureau of Labor Statistics every month, and is ready to be accessed by the middle of the month. The CPI is compiled with data gathered in the previous month.

Basic Information

There are two components of the CPI: These are the CPI-W, which measures the CPI for clerical workers and the urban wage earners, and the CPI-U or the CPI for those who belong to urban consumers. Of the two, CPI-U is more important.

In determining CPI-U, the prices for energy and food are not included. There are also seasonal adjustments, as seasonal changes can strongly impact the prices of goods and thus consumer spending. For example, you may notice that prices tend to be high during the holiday season. Winter clothes like heavy coats and sweaters typically cost more than summer clothes, such as t-shirts.

For comparison, the report has its base year, which is at 1982. Any change in the previous levels (for example, the rate of change in prices from 2001 to 2002) will be presented in terms of percentage. The figure will also stand for the annual growth run rate, so it’s easier for the investors to have a clearer outlook on inflation levels in the upcoming months.

Along with these two components is the chain-weighted CPI. It indicates how consumer choice can affect the prices of goods in the market and the inflation level. That’s why it has also become a significant indicator among investors and business owners. Some common examples of consumer patterns include biases over certain goods and the substitution of products.

To illustrate its transparency, let’s suppose that consumers decide to opt for product B instead of product A because of the former’s newer features. The said shift will be reflected in the chain-weighted CPI. Core CPI, the first two mentioned, will only measure the rise of prices of goods regardless of whether people are buying the products or not.

How the Report Is Valuable

You can never miss CPI since it’s one of the most anticipated reports not only by investors but also by the media. You will frequently see that it bannered in business sections. It is very detailed and comprehensive; thus, it is the definite guide for those who want to predict the movements of the federal rates. The Federal Open Market Committee shall depend on the report.

The report is broken down in different sections, from geographical regions to every consumer group in the market.

The data found in CPI easily quantified, being definite and final. Thus, they are an excellent basis for other economic indicators. They are also used in both types of markets, known as the fixed income and equity. They are also the basis for the adjustments on the mechanisms of cash flow in the government, such as pension plans, cost of living, health care plans, and insurance policies. Investors of fixed income view CPI as very important as they have to keep their present yields higher than inflation to avoid loss of wealth.

Things to Watch Out For

Because the CPI is reported monthly, the information can be very volatile. Also, two important goods, food and energy, are not included. Moreover, in chain-weighted CPI, it’s possible that subjectivity in the consumers’ product choices must also considered.

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