Why some inflation measurements don’t include food and energy prices
Share Now on:
Why some inflation measurements don’t include food and energy prices
This is just one of the stories from our “I’ve Always Wondered” series, where we tackle all of your questions about the world of business, no matter how big or small. Ever wondered if recycling is worth it? Or how store brands stack up against name brands? Check out more from the series here.
Marketplace listener Erich Vorpagel asked us this:
I remember being told that health care, food and energy were no longer included in the inflation rate. Is this still true?
We’ve been hearing a lot about inflation lately: why there doesn’t seem to be any, if it could raise with the $1.9 trillion stimulus package, and why Wall Street “fears” it.
Federal Reserve Chair Jerome Powell talked about inflation this week after the Federal Open Market Committee wrapped up its two-day March meeting. “Talking about inflation is one thing; actually having inflation run about 2% is the real thing,” he said.
“Over the years, we’ve talked about 2% inflation as a goal, but we haven’t achieved it,” Powell continued. “So I would say we’d like to perform. That’s what we’d really like to do, is to get inflation moderately above 2%.”
So how is inflation even measured? Well, “there’s as many measures of inflation as there are economists studying it,” said Steven Deller, a professor of agricultural and applied economics at the University of Wisconsin-Madison. But the inflation rates we hear about most often do include health care, energy and food. Economists will sometimes look at a number called “core” inflation that takes out food and energy prices because they can fluctuate quite a bit.
CPI versus PCE
The Consumer Price Index, or CPI, is typically the headline number you see in news reports. The CPI, run by the Bureau of Labor Statistics, measures more than 200 categories of items arranged into eight major groups, including: food and beverages, housing, apparel, transportation, medical care, recreation, education and communication, and other goods and services.
Another main measure is the personal consumption expenditures price index, or the PCE. This measure, run by the Bureau of Economic Analysis, updates how items are weighted in its formula to better reflect consumer behavior, said Menzie Chinn, professor of public affairs and economics at the University of Wisconsin-Madison. Because of this, the PCE is in some sense more representative of the costs consumers face, Chinn said.
But CPI is still used whenever there’s a law or statute that requires a cost-of-living adjustment, Deller said. For example, Social Security uses the CPI for its cost-of-living adjustments.
Food and energy
Both measures include health care, food and energy, but core inflation is helpful to economists, too, in that it gives a better sense of inflation’s overall trend. Core inflation strips out only food and energy prices, because they can be pretty volatile due to environmental issues or geopolitics.
Alexi Savov, an associate professor of finance at New York University’s Stern School of Business, gives the example of disappearing anchovies in Peru in 1972. That year, an El Niño storm basically blew anchovies farther off the coast than normal, making it hard for fishermen to catch them. Apparently, Savov said, anchovies were a key ingredient in livestock feed. In turn, the price of meat went up, and that “had a discernible effect on inflation,” he continued.
“[This] shows you why people said, like, ‘Maybe we should not focus on food and take it out when we’re trying to see where things are really headed,’” Savov said.
Core inflation is great for making monetary policy, he said, because it lets economists know where things are going. “Policy is [like] moving a tanker ship, so you need to know where you’re headed, and not just where you are right now.”
Health care
Both overall and core measures of inflation include health care and medical costs. Measuring health care costs is challenging, Chinn said, because the CPI is meant to capture the cost the consumer faces. But most of the cost is not borne by the consumer.
“Let’s say you get an MRI. What you, as the consumer, face is different from the actual cost of the procedure itself,” Chinn said.
For this reason, Savov said, the CPI does not include Medicare or Medicaid in its measurement. But the PCE still does.
Changes in quality also make it hard to measure health care inflation. Quality factors into inflation because it’s hard to know if a product is staying the same and the price is rising or if it is actually just increasing in quality. This is a broader issue than health care, but it can be particularly challenging to measure.
But, while it’s a challenge to measure, it is definitely not excluded from inflation, Savov said.
Correction (March 19, 2021): A previous version of this story misspelled Menzie Chinn’s name. The text has been corrected.
There’s a lot happening in the world. Through it all, Marketplace is here for you.
You rely on Marketplace to break down the world’s events and tell you how it affects you in a fact-based, approachable way. We rely on your financial support to keep making that possible.
Your donation today powers the independent journalism that you rely on. For just $5/month, you can help sustain Marketplace so we can keep reporting on the things that matter to you.
