Friday, May 11, 2012

Consumer Price Index (CPI) and Seasonal Adjustment Explained

The consumer price index, created by the bureau of labor statistics, is designed to be a month-by-month report on the changes in prices paid for a specific service or good. In more basic terms, it is a measure for the increase in price. The CPI is definitely very dense in information- I intend to break it down to the very basic aspects. In all the examples, I will be using the March 2012 CPI. I will first explain trends. For a given month, the CPI will highlight the overall findings. For example, the March 2012 index states that "The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.3 percent in March on a seasonally adjusted basis, the U.S.Bureau of Labor Statistics reported today. Over the last 12 months, the all items index increased 2.7 percent before seasonal adjustment."

What does this mean? Well, in order to understand the meaning, you must first understand the concept of seasonal adjustment. Seasonal adjustment is best expalined as an adjustment rate used to elimate the inevitable seasonal changes in data. This allows for a comparatively more accurate findings. For example, people are inevitabley going to pay more for lawn-mowers in the summer because it is more of a neccessity. However, if we were not to include the seasonal adjustment, we would misleadingly believe that people have gained a sudden interest in lawn-mowers. Now let's talk about the .3 percent increase. This increase means that in March of 2012, people are paying .3 percent more than they were previously. (As said before, it's essentially a measure of how much prices go up, and in turn, inflation.)Imagine that this number was exaturated to 5%. Although this may not seem like much, it means the average consumer cannot buy as much as they were before. Also keep in mind that these For example, The relative importance (how important is each item in the CPI? See chart above.) Caveat: Look at the breakdown! Sometimes, the CPI figure will be announced with the caveat that the CPI would be different if a certain product were not included. For example, the CPI for a month may be 2%. However, without gasoline, it may have been 1%. This means that the price of gasoline had a huge spike in prices and therefore affected the CPI a significant amount. Remember, increase CPI means people are paying more (inflation). The table below also tells us some other things, however I explained the CPI in a nutshell. I may elaborate further in future posts, but I think that even understanding this much is a great start.

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