04/14/11 Calculating Inflation


Each month your finances get tighter.  You haven’t had a raise in awhile and expenses appear to increase.  Yet, the government insists there is very little inflation.  How can that be?

One inflation rate is based on CPI, the consumer price index.  CPI is determined by changes in the prices paid for about 80,000 different goods and services.

Another rate is called “core inflation.”  Unlike CPI, food and energy costs are stripped out.  The Federal Reserve, which sets U.S. monetary policy, uses core inflation.  The Fed argues that food and energy prices are too volatile and distort the true inflation rate.

This would make sense if food and energy prices were to register dramatic highs and lows.  But they don’t.  We only see highs.

In February, the CPI measured 0.5 percent or 6 percent on an annualized basis.  Core inflation was only 0.2 percent or 2.4 percent for a year.  That’s a big difference.  The Fed’s use of core inflation to set monetary policy worsens everyone’s financial situation.

One more thing.  Prices for commodities such as food and energy are affected by a devalued dollar.  By eliminating food and energy in calculating the inflation rate, the Fed can hide the true cost of printing more money.

This may be the real reason why the Fed uses the core inflation rate.

There is fascinating discussion on changes to how the Consumer Price Index is calculated that is worth reading (here).

For more information on the U.S. Federal Reserve see this segment of Behind the Headlines.