Last Updated on: 16th February 2021, 02:05 pm
Consumer Price Index (CPI) is a monthly report that measures the average change in the prices paid by urban households for a basic basket of consumer goods and services. CPI is a good indicator of the level of inflation in the market.
An index that measures the change in price of a representative basket of goods and services such as food, energy, housing, clothing, transportation, medical care, entertainment and education. It’s also known as the cost-of-living index.
Importance of Consumer Price Index
The CPI measures inflation (a sustained rise in prices in an economy) as experienced by consumers in their day-to-day living expenses
The increase in the CPI is what most people think of as the “inflation rate.” It is used by retailers in predicting future price increases, by employers in calculating salaries, and by the government in determining cost-of-living increases for Social Security.
Signs of inflation means the central bank has to raise interest rates. The most widely used indicator of inflation is CPI. If CPI is increasing, then it gives a central bank such as the Fed the necessary supportive data to hike rates. Higher interest rates are bullish for the country’s currency.
Background of Consumer Price Index
The CPI is a measure of the change over time in the prices paid by consumers for a market basket of goods and services.
These goods and services include food, clothing, shelter, newspapers and CDs. Items on which the average consumer spends a great deal of money, such as food, are given more weight, or importance, in computing the index than items such as toothpaste and movie tickets, on which the average consumer spends comparatively less.
The CPI does not include investment items, such as stocks, bonds, real estate, and life insurance. These items relate to savings and not to day-to-day consumption expenses.
Each month, data collectors from the ”’ Bureau of Labor Statistics (BLS)”’ called economic assistants visit or call thousands of retail stores, service establishments, rental units, and doctors’ offices, all over the United States to obtain price information on thousands of items used to track and measure price change in the CPI. These economic assistants record the prices of about 80,000 items each month. These 80,000 prices represent a scientifically selected sample of the prices paid by consumers for the goods and services purchased.
During each call or visit, the economic assistant collects price data on a specific good or service that was precisely defined during an earlier visit.
If the selected item is available, the economic assistant records its price. If the selected item is no longer available, or if there have been changes in the quality or quantity (for example, eggs sold in packages of 8 when previously they had been sold by the dozen) of the good or service since the last time prices had been collected, the economic assistant selects a new item or records the quality change in the current item.
The recorded information is sent to the national office of BLS where commodity specialists, who have detailed knowledge about the particular goods or services priced, review the data. These specialists check the data for accuracy and consistency and make any necessary corrections or adjustments. These can range from an adjustment for a change in the size or quantity of a packaged item to more complex adjustments based upon statistical analysis of the value of an item’s features or quality. Thus, the commodity specialists strive to prevent changes in the quality of items from affecting the CPI’s measurement of price change.
Source of Consumer Price Index (CPI)
Availability of CPI
It is released at 8:30am EST on the second or third week following the month being covered. Always released after the Producer Price Index.
No monthly revisions.
The Consumer Price Index, or CPI as it is more commonly known is also sometimes referred as the ”Retail Price Index” and is often considered the most widely used and most accurate measure of inflation and tends to also be regarded as an indicator of the effectiveness of the current government policies. Essentially, the CPI is a “basket” of various consumer goods and services that have been purchased by the wage earners of certain urban areas and which have been tracked from month to month.
The CPI is a fixed quantity price index and also a form of cost of living index and is considered one of the most useful tools in financial circles as it can provide clues as to movements in inflation.
When inflation rises, our purchasing power subsequently falls into decline meaning that every dollar earned is capable of buying a lesser percentage of a good or service. While it is typical for The federal reserve to battle rising inflation by increasing short term interest rates this is often frowned upon by investors because the cost of borrowing increases.
Close attention needs to be paid to the “core rate” as this rate excludes volatile energy and food prices to give a more strict measurement of general prices. Ideally, for within the financial markets you would generally be looking for the CPI to rise at an annual rate of just 1-2%, as any amount over this would indicate a warning about growing levels of inflation.
Consumer Price Index (CPI) can be greatly influenced in any given month by a movement in volatile food and energy prices. Therefore, it is important to look at CPI excluding food and energy, commonly called the “core rate” of inflation. Within the core rate, some of the more volatile and closely watched components are apparel, tobacco, airfares, and new cars. In addition to tracking the month/month changes in core CPI, the year/year change in core CPI is seen by most economists as the best measure of the underlying inflation rate.
Vincent Nyagaka is a Professional Trader, Analyst & Author. He has been actively engaged in market analysis for the past 7 years. He has a monthly readership of 100,000+ traders and has taught over 1,000 students since 2014. Vincent is also an experienced instructor and public speaker. Check out Vincent’s Professional Trading Course here.