Where the CPI Comes From

Last week was a busy one for the markets. The S&P 500 had its sixth weekly loss in a row on lots of news and volatile trading. Stocks snapped back a bit as the week ended, which is encouraging, and futures are brighter as I write this morning. The crypto space suffered a thwacking last week as well after a highly-speculative-but-marketed-as-safe “stable coin” basically bit the dust. Bitcoin, the comparatively stodgy digital asset, got hit as well but has since found its feet. And the much-maligned bond market finally picked up some slack by staying positive when stocks were down.

Also last week we learned that inflation rose at an annualized rate of 8.3% in April. This is slightly slower than the 8.5% Consumer Price Index in March. Energy, apparel, and used vehicle costs declined during the month, but everything else tracked by the Bureau of Labor Statistics was higher on average. 

The CPI numbers move markets and are upsetting for many, so it’s helpful to get a better understanding of how they’re derived. There’s a bunch of reading material on the BLS’s website and I’ve copied some below as a summary. Additionally, there was a great piece from The Wall Street Journal last week covering BLS staff who go into the field to collect data. I’ve copied some parts from that article as well and a link is below if you’d like to read more.

Assorted information from the BLS [notes and emphasis mine] –

The CPI is widely used as a cost-of-living index, which answers the hypothetical question concerning what expenditure level is needed to achieve a standard of living attained in a base period at current market prices. [In other words, the CPI is trying to approximate how a typical person’s cost of living changes over time. The BLS doesn’t know the value of your time, your personal buying habits, or the substitutions you make as prices rise. This is part of the reason why people often feel like their personal inflation rate is much higher.]

The CPI focuses on the consumer experience of inflation, therefore the price sought is typically the consumer's out-of-pocket price, including sales and excise taxes.

The CPI is calculated in a two-stage process. First, basic indexes are calculated; these are indexes for specific item-area combinations. Ice cream and related products in the Chicago-Naperville-Elgin metro area are an example. These are structured by item category and geographic location. In the second stage, the basic indexes are aggregated into broader indexes, all the way up to the all items U.S. city average index. Thus, the CPI has both a geographic structure and an item structure.

Expenditure items are classified in the CPI into more than 200 categories, arranged into 8 major groups [that are unique to the CPI calculation process].

Eight major groups and examples of categories in each follow:

  • Food and beverages (breakfast cereal, milk, coffee, chicken, wine, full-service meals, snacks)
  • Housing (rent of primary residence, owners' equivalent rent [roughly what a homeowner would pay to rent their own home], utilities, bedroom furniture)
  • Apparel (men's shirts and sweaters, women's dresses, baby clothes, shoes, jewelry)
  • Transportation (new vehicles, airline fares, gasoline, motor vehicle insurance)
  • Medical care (prescription drugs, medical equipment and supplies, physicians' services, eyeglasses and eye care, hospital services)
  • Recreation (televisions, toys, pets and pet products, sports equipment, park and museum admissions)
  • Education and communication (college tuition, postage, telephone services, computer software and accessories)
  • Other goods and services (tobacco and smoking products, haircuts and other personal services, funeral expenses) 

[CPI] directly affects the income of almost 80 million people. Social Security benefits as well as military and Federal Civil Service pension payments are indexed to the CPI. In the private sector, many collective bargaining agreements tie automatic wage increases to the CPI and some private firms and individuals use the index to keep rents, alimony, and child support payments in line with changing prices.

Additionally, for analytical purposes, the CPI is also divided into food, energy, and all items less food and energy. The CPI for all items less food and energy gets considerable attention as a measure of underlying "core" inflation, which is not subject to the volatile movements of food and energy prices.

Now from the recent WSJ article –

READING, Pa.—Emily Mascitis has one of the most important jobs you never knew existed.  

As Americans’ monthly bills climb at the fastest rate in four decades, it is Ms. Mascitis’s work that confirms the $9 you just paid for a 4-pound bag of clementines isn’t an anomaly. 

Ms. Mascitis is an on-the-ground economist with the Bureau of Labor Statistics, one of 477 workers employed by the federal government to track changing prices for hundreds of thousands of goods and services every month. The culmination of their work is the Consumer Price Index, which moves markets and monetary policy and charts changes in the cost of living for millions of people. 

A typical day on the job might take Ms. Mascitis to a beauty salon to check the price of a blowout, to a jeweler to see what a strand of pearls costs and a funeral parlor to learn what it is charging for cremation services. It also gives her a front-line view on how broad economic forces ripple in the real world.

Prepandemic and before the rise in inflation, store managers—along with Ms. Mascitis’s own family and friends—didn’t take much interest in the numbers she was collecting.

Now, she says a grocery store or mechanic visit can take an extra 10 minutes as business owners complain to her about rising prices. Her husband looks to her for help cutting costs to feed and clothe their 10-person household. (Ms. Mascitis, a mother of six, is trying to curb her family clementine obsession: “We need to pick a less expensive fruit.”) Her friends ask for the inside scoop into the next BLS reading—something she can’t disclose under any circumstances as confidentiality is one of the core elements of an on-the-ground economist’s job.

Ms. Mascitis, 50, who has been working as a BLS price checker since 2013, describes her job as “a treasure hunt.”

Participation in the CPI is voluntary for businesses, so having a rapport with individual company owners helps, Ms. Mascitis says. As a branch chief, she helps recruit new small businesses as well as corporations to be part of the index. She also oversees 10 employees. 

The job of a price-checker is exacting. To price an item, workers go through an up to 11-page list of data points to make sure they are pricing the same item they did the prior month. A can of soup has 12 different specifications, including flavor, size, brand, organic labeling, material of the packaging and dietary features, such as sodium content. 

At a grocery store outside Reading, Pa., Ms. Mascitis introduces herself to the night manager and heads to the soup aisle to price a can of chicken noodle. She double checks to make sure it is the exact item she is supposed to record—If not, she could skew the accuracy of the entire index or make her data point unusable. 

“Do you see what I just did? I almost just ruined the whole thing,” she says, pointing to a teeny “low sodium” label on the can.

Next Ms. Mascitis heads to the frozen foods aisle, hunting for a noodle dinner. After rifling in the freezer, she resolves to ask the manager whether it is out of stock and says she will return. 

Supply-chain shortages have made it more difficult to check prices from month to month over the pandemic, since goods are often out of stock, Ms. Mascitis says. During the visit, an announcement over the grocery-store PA asked shoppers to be patient as the store deals with limited supply.

Crouching down to price a bag of potato chips, Ms. Mascitis notices a trend she has been seeing a lot of recently: shrinkage. The price of the chips has stayed the same but the contents of the bag have shrunk, from 12 to 11 oz. 

“That is called shrink-flation, and it’s sneaky because the consumer doesn’t always pick up on that,” Ms. Mascitis says.  

The BLS tracks prices for up to 100,000 goods and services, and 8,000 housing units every month. The agency decides which items to price using census-collected data on buying habits, making sure the measurements reflect the way Americans spend their money and rotating items out after four years.

Here’s the link to the portion of the BLS website and the org’s “Handbook of Methods”.

https://www.bls.gov/opub/hom/cpi/concepts.htm

And here’s a link to the WSJ article.

https://www.wsj.com/articles/inflation-bls-price-checkers-who-determine-cpi-11652132333?mod=hp_lead_pos8

Have questions? Ask me. I can help.

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