What is a Consumer Price Index and why is it important?

This article is brought to you thanks to the collaboration of The European Sting with the World Economic Forum.

Author: Victoria Masterson, Senior Writer, Formative Content

• A Consumer Price Index (CPI) records the price of a wide range of goods and services in a country to keep track of inflation.
• It can include anything from a loaf of bread to a holiday.
• In the United States, the prices of about 80,000 items a month are collected.
• Consumer prices are soaring at double-digit levels in about a fifth of OECD countries.

Have you been buying a lot of meat-free sausages and antibacterial surface wipes lately?

Well, people in the United Kingdom obviously have, because these products have recently been added to the basket of goods used to calculate the UK’s Consumer Price Index (CPI).

Other additions include pet collars and sessions at climbing walls.

So what are Consumer Price Indices and why do they matter?

What is a Consumer Price Index?

A country’s CPI tracks the prices of everyday goods and services that households buy. This covers areas including food, clothing, transport and leisure spending.

By averaging out price changes across a basket of these goods, economists can work out how prices are rising or falling and how this affects the cost of living.

Small items like a loaf of bread or a bus ticket might be part of this basket, alongside larger ones like a car or a holiday, the Bank of England explains.

Most countries update their CPI monthly, apart from Australia and New Zealand, which publish quarterly figures.

Governments have tracked consumer prices for decades. In the United States, the Bureau of Labor Statistics started gathering CPI data in 1913, according to financial website Investopedia.

The Bureau says its data collectors record the prices of about 80,000 items a month across more than 200 categories. This involves visiting – in person or online – or calling thousands of shops and service providers across the US.

Why does the CPI matter?

The CPI is one of the most commonly used tools to measure inflation and deflation.

Inflation is an important indicator of an economy’s health. Governments and central banks use the CPI and other indices to make economic decisions.

Key among these is whether to raise or lower interest rates. Higher interest rates make borrowing money more expensive and are designed to push down consumer spending – and, in turn, inflation. Lower interest rates work the other way and are designed to encourage consumer spending, to keep inflation in line with a country’s target.

What’s the World Economic Forum doing about tax?

The World Economic Forum has published its Davos Manifesto 2020, calling on business leaders to sign up to a series of ethical principles, including:

“A company serves society at large through its activities, supports the communities in which it works, and pays its fair share of taxes.”

Additionally, the Forum’s Trade and Global Economic Interdependence Platform provides a vital link between trade and tax communities to enable coherent policymaking which responds to societal needs and reflects business realities.

Taking its lead from OECD-led reforms, the work brings technical issues to a high-level audience and enables honest dialogue among diverse stakeholders on polarizing topics. You can find relevant publications here.

The CPI is also used to guide wage adjustments in line with the cost of living, and to measure people’s eligibility for benefits such as social security. In the US, more than 50 million social security beneficiaries, military veterans and retired government workers have cost-of-living adjustments tied to the CPI, explains the Organisation for Economic Co-operation and Development (OECD).

CPI data also helps economists measure the total value of goods and services produced by an economy, with the effect of inflation stripped out – an indicator known as Real Gross Domestic Product.

What does the research say?

Consumer prices are soaring at the moment, mainly because of rising energy prices. Based on CPI data across its member countries, the OECD recorded an 8.8% jump in consumer price inflation in March 2022 compared with a year earlier. This was the sharpest rise since October 1988, and compares to an increase of just 2.4% in March 2021.

Consumer price inflation is at double-digit levels for around a fifth of OECD countries. Turkey has the highest rate, at 61.1%.

Energy prices across the OECD were 33.7% higher in March 2022 than at the same time last year, the highest inflation rate since May 1980.

The UK, South Korea, New Zealand and Brazil are among the countries that have started raising interest rates to try and slow rising prices.

Controversies sometimes surface about whether the CPI is a reliable measure of inflation. US economist David Ranson bases his inflation measure on a basket of precious metals instead, because he believes commodity prices are a better and more current indicator of inflation than consumer prices, according to Investopedia.