What It Measures
The Consumer Price Index measures inflation by tracking price changes for a representative basket of goods and services purchased by urban consumers. The basket includes:
- Food and Beverages (~14%): Groceries, restaurants, alcohol
- Housing (~33%): Rent, owners' equivalent rent, utilities
- Apparel (~3%): Clothing, footwear
- Transportation (~16%): Vehicles, gasoline, public transit
- Medical Care (~9%): Health insurance, doctor visits, drugs
- Recreation (~5%): TVs, sports equipment, pets
- Education and Communication (~7%): Tuition, phones, internet
- Other (~3%): Personal care, tobacco, miscellaneous
The BLS collects prices from approximately 23,000 retail establishments and 50,000 housing units monthly.
Why It Matters
Fed's Target: The Federal Reserve aims for 2% annual inflation. CPI above this level may prompt rate hikes; below may allow rate cuts.Cost of Living Adjustments: Social Security benefits, tax brackets, and many wage contracts are adjusted based on CPI.Real Returns: Investors use CPI to calculate inflation-adjusted (real) returns on investments.Consumer Purchasing Power: Rising CPI erodes the buying power of consumers' dollars.
How to Interpret
Year-over-Year (YoY): The most common measure, showing the percentage change from 12 months ago.Month-over-Month (MoM): Shows the most recent price momentum; often annualized for comparison.Core CPI: Excludes volatile food and energy prices to show underlying inflation trends.Components: Watch for broad-based vs. concentrated inflation. Shelter inflation has been particularly persistent.
Key Levels to Watch
| Level | Interpretation |
|---|---|
| Below 2% YoY | Below Fed target, potential for policy easing |
| 2-3% YoY | Near target range, neutral for policy |
| 3-4% YoY | Above target, Fed likely maintaining restrictive stance |
| Above 4% YoY | Elevated inflation, hawkish policy expected |
| Above 6% YoY | High inflation, aggressive tightening likely |
Historical Context
CPI inflation peaked at 9.1% in June 2022, the highest since 1981, driven by supply chain disruptions, energy prices, and fiscal stimulus. The Fed responded with the most aggressive rate hiking cycle in decades.