CPI Inflation Primer

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CPI Inflation Primer

There’s a lot of attention on Friday’s US Consumer Price Index inflation report, and with that focus we’ve seen quite a bit of commentary that betrays a lack of understanding about how this measure is constructed. Today’s “Data” section is therefore a combination primer and look-ahead to Friday’s release in our usual 3-point format.

#1: These are the major components of headline and core CPI.


  • Food: 13.4 percent, split roughly 60/40 between Food at Home (8.3 pct) and Food away from Home (5.1 pct)
  • Energy: 8.3 percent, of which gasoline (4.6 pct) is just over half the category
  • Commodities ex-Food and Fuel: 21.5 percent, of which new and used cars (4 percent apiece) is the largest category with Apparel (2.5 pct) in second place
  • Services ex-Energy Services: 56.8 percent. Shelter is the largest chunk of this segment, at 32.5 percent, followed by Medical Care (6.9 pct) and Transportation Services (5.7 pct).

Comment: Shelter, Food, and Gasoline make up half of headline CPI. If someone tells you recent news that some retailers are discounting clothes will have any measurably effect on CPI, ignore them. Retailers could give clothes away for free and US inflation would still be over 5 percent (headline CPI last month was 8.3 percent, less Apparel’s 2.5 percent weight).

Core (excluding Food and Energy):

  • Commodities: core CPI weighting of 27.5 percent versus 21.5 pct in headline. New and used vehicles become 10 percent of core versus 8 of headline. Apparel goes to a 3.2 percent weighting.
  • Services: 72.5 percent of core versus 56.8 percent of headline. Shelter moves to a 41.4 percent weighting, with Medical Care up to 8.8 percent and Transportation Services to 7.2 percent.

Comment: Shelter and new/used car inflation are just over half of core CPI (51 percent). The other chunky and largely non-deferrable pieces are Medical Care (8.8 pct) and car insurance (2.4 pct).

#2: Shelter inflation is primarily (73 percent) measured by something called Owners’ Equivalent Rent (OER), which is a survey-based metric. The Bureau of Labor Statistics asks a rotating panel of homeowners how much they think their house would rent for, and the percent change in the responses is OER inflation.

OER comes in for a lot of criticism, mostly because it never seems to match up with widely watched measures of house prices like the national and regional Case-Shiller indices. Also, OER is relatively new, only starting in 1983, when it replaced a measure of housing inflation that included mortgage interest rates. These were very high in the 1970s (+15 percent) and skewed the overall CPI measurement considerably. This is why we always express caution when looking at 1970s CPI inflation and comparing it to today. The 1970s is comparable to itself, but not today’s data.

The important thing to know about OER inflation now is that it trails core inflation (4.8 percent versus 6.2 percent last month) but that is an unusual situation. The chart below shows OER (red line) and core CPI inflation (black line) from 1984 – present. Excluding recessions and the periods immediately after them, OER inflation is always higher than core inflation.

Comment: Owners’ Equivalent Rent is the keystone of how the BLS measures prices, and neither headline nor core inflation can return to the Fed’s 2 percent target without OER dropping from its current levels. In order for that to happen, the housing market must cool enough that OER survey respondents feel a difference. And a quite sizeable difference at that.

#3: It is important to remember that while CPI measures annual price changes, multiyear increases can matter more to consumer spending patterns as well as their general perceptions of inflation. The chart below shows the gasoline component of CPI back to 1970. It is as jagged as you’d expect, with peaks around oil shocks (1973, 1979, 1990), commodity supercycles (2000, 2008) and after recessions (especially 2010 – 2011).

Note, however, that the peaks above 40 percent annual gasoline inflation (upper, bolded horizontal line) don’t tend to last very long except for the last 2 years. Yes, part of that was a function of depressed gas prices in 2020 and comping against those levels in 2021. But with oil prices now near record highs, we are still seeing +40 percent gasoline inflation.

Comment: food and fuel are the two CPI categories consumers purchase most regularly and therefore are logical baselines for them to assess inflationary pressures. We often read that the Federal Reserve can’t control oil prices but take one more look at the chart above. Notice that every recession since 1970s sees gasoline inflation go to zero or negative. Yes. The Fed can bring down gas prices. Create a recession and they will drop.

No, we don’t think that’s the Fed’s gameplan, but it is a good spot to close out this discussion: inflation is a solvable problem, but the solution is not always easy or pleasant.


CPI Data: https://www.bls.gov/news.release/cpi.t01.htm