Understanding Recent Inflation Trends

Inflation Eases

The latest Consumer Price Index (CPI) numbers were released this past Wednesday, giving us new insights into our current economic situation. Let's break down what these numbers mean and why they're important.

What is the CPI?

The Consumer Price Index measures the cost of living. It's like a shopping basket filled with goods and services that a typical household buys. By tracking how the price of this basket changes over time, we can measure inflation.

Recent CPI Trends

The graph below reflects the price changes we have experienced since January 2020:

The August CPI was measured at 314.121. But what does this number mean in practical terms?

Calculating Inflation

We're more concerned with the index's rate of change, often measured as the CPI's year-on-year change. Here's how we calculate it:

• Last August (2023), the CPI was 306.187

• This August (2024), it's 314.121

To calculate the 12-month inflation rate:

1. Subtract last year's CPI from this year's: 314.121 - 306.187 = 7.934

2. Divide by last year's CPI: 7.934 / 306.187 = 0.0259

3. Multiply by 100 to get the percentage: 0.0259 * 100 = 2.59%

\(\frac{314.121-306.187}{306.187} \times 100 =2.59\%\)

This puts the 12-month inflation rate at 2.59%, down 0.4 percentage points from the July level and the lowest since February 2021.

All Items vs Core Inflation

While this was a good report overall, core inflation was a bit higher at 3.2%. This raised concerns that the Federal Reserve might not be as aggressive with its rate cuts when it meets later this month.

So, what's the difference between these two inflation numbers?

1. All-items inflation (Headline inflation):

   1. Measures price changes for all goods and services

   2. Includes everything: food, energy, housing, clothing, transportation, medical care, etc.

   3. More volatile due to items with frequently fluctuating prices (like gas and food)

2. Core inflation:

   1. Excludes food and energy prices

   2. Focuses on underlying inflation trends by removing volatile components

   3. Considered a more stable measure of long-term inflation

   4. Often used by central banks and policymakers for monetary policy decisions

What Does It Mean When Core is Higher?

When core inflation (3.2%) is higher than headline inflation (2.59%), it indicates deflationary pressure in volatile sectors:

• Food and/or energy prices are likely decreasing

• These declines are significant enough to pull down the overall inflation rate

This situation gives us important insights into different sectors of the economy and helps policymakers make informed decisions.

PCE vs CPI

The Federal Reserve has a more preferred measure of inflation using the personal consumption expenditures price index. Marketplace Radio had a great segment recently on this topic. Listen to the segment below. I found it helpful and assigned it to my students.

The Language of Economics

To be a fully informed citizen in this world, you need a good understanding of economics and how the macroeconomy impacts your personal life. Economics is personal, and I hope that through this newsletter, you've learned more about the economy and gained the confidence to navigate the often complex economic discussions in the news. Everyone expects you to understand it, but very few have the opportunity to take a class on this subject. That's where we come in!

Now, I'd love to hear from you:

1. What economic concept or news item has become clearer to you through this newsletter?

2. How have you applied something you've learned here to your personal financial decisions?

3. What economic topics would you like to see covered in future issues?

Your feedback is invaluable in shaping this newsletter to serve you better. Please take a moment to leave a comment below sharing your thoughts and experiences. Your insights not only help me improve our content but also inspire other readers in their economic journey.

Remember, economics isn't just for experts—it's for everyone. By engaging in this conversation, you're not only enhancing your own understanding but also contributing to a more economically literate community.

Thank you for joining this learning adventure. I look forward to hearing your stories and continuing our economics discussion together.

Sincerely,

Dr. A