Core Price Index

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Definition of Core Price Index:

The core price index is a price index that measures inflation without considering food and energy prices. The two most common core price indexes are the core consumer price index (CPI) and the core personal consumption expenditures (PCE) index.

Detailed Explanation:

Food and energy prices can be volatile and unpredictable, so economists use a core price index to determine the general trend in prices. The consumer price index is the most widely used measure of inflation. The consumer price index compares items in a “basket” of commonly used goods and services. The measure assumes no change in the basket contents. Unlike the consumer price index, the PCE price index accounts for changes in spending behavior as the price of a good increases or decreases. For example, the weight given to chicken would increase if consumers substitute chicken for beef following an increase in the price of beef. While the consumer price index is the most widely published, it may not be the most important core index. The PCE core price index is favored by the Federal Reserve, making it more important when evaluating monetary policy. 

One of the objectives of monetary policy is to maintain stable prices. An increase in the price level may prompt the FOMC to increase interest rates in an effort to curb inflation. Such a move could be counter-productive if done following a short-lived increase in energy or food prices. For example, in September 2017 the economy was in a long-term recovery and the Federal Reserve was considering increasing interest rates. Higher energy costs contributed to doubling the monthly PCE from 0.2 to 0.4 percent, precipitating a large jump in the 12 month PCE from 1.4 to 1.7 percent. Gasoline prices fell in October, resulting in a PCE of 0.1, and an annual rate of 1.6 percent. If the Federal Reserve had only considered the PCE, it may have followed a more contractionary monetary policy. (See the full report at BEA - Personal and Income Outlays – November 2017.)

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