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September 7, 2008
CPI (Consumer Price Index) and PPI (Producer Price Index) are price index numbers which have a certain base year commodity basket implicit in their computation. Market basket is essentially a standardised set of weights, each weight represent the proportion of a particular commodity/ service in the base year basket of consumption in the case of CPI and of production in the case of PPI. The Price Index for different years and months/ weeks are computed by taking the current prices in the relevant year/ month/quarter and averaging them using the weights in the base year consumption basket. And the average price level for the period is then first divided by the average price level for the base year and the result then multiplied by 100 to arrive at the Index number for the period.
Inflation rate is then worked out by observing the index numbers of two periods as computing the following:
[ Index number for period t - index number in period (t-1)*100/ index number for period (t-1). This is called the inflation rate for the period t.
Note: The Bureau of Labor and Statistics maintains detailed information on the US economy. This information is used to to determine at what rate the US economy is growing, shrinking, inflating, or deflating. As a general trend, the US economy has been going through a long term of inflation. Since 1913, the BLS has published monthly and annual data on the economy. This data is presented in the Consumer Price Index (CPI). The CPI is a representation of what a "basket of selected goods" might cost in many urban areas of the USA. As the cost of these "basket items" increase, so does the CPI index. For instance, in 1913, these "basket of goods" might have cost a consumer $9.90. By 1950, those same goods might have cost $24.10. By the year 2000, they had risen to $169.00. While these actual numbers are not really what one would have paid for the BLS basket of goods, the analogy is accurate. We can explain this comparison by a general trend of inflation in the US economy; over time the same goods and services cost more than before.
In 1947, the BLS started publishing data on the production sector of the US economy. This index is called the Producer Price Index. The PPI is a very useful tool for estimating annual inflation rates for producers. Its uses are many and its application important to the production sector. In addition to producing this index for all producers, the BLS maintains very detailed information on many sectors of the economy. From this data set, we can get information on logging, lumber, and related industries. More on that later in this page.
How do we get Inflation from the index?
In order to change the data found in the index to a meaningful annual inflation rate, we have to know how to manipulate the data. If you have already been to the Finance section of this web domain then by chance you have already seen one of our investment formulae called the Present Value of a Single Sum. It looks something like this:
Vo = Vn / (1+i)^n
If we make a few changes to this formulae we can use it to calculate our inflation in the economy. The way to do it is like this; first, I consider that Vn is our future value and V0 is our present value. We can easily exchange those for the later value in the Index and the prior value in the index, respectively. By rearranging the items and solving the equation for " i " we come up with the following:
f= nth root of (CPIn/CPIo) -1
Where: f = annual inflation rate
CPIn = Consumer Price Index at year "n"
CPI0 = Consumer Price Index at year "0"
n = interval, in years, between CPIn and CPIo
Over the period 1978 to 1981, what was the average annual inflation rate, as measured by the CPI?.
If we take a look at the CPI we can see that the CPI in 1978 was 65.2 and in 1981 it was 90.9. There were 3 full years separating these measures so we are ready to make an estimate: cube root of (90.9/65.2)-1 = 11.71 %
We interpret this number by saying, "Over the 3 year period from 1978 to 1981, inflation averaged 11.71% per year, as measured by the Consumer Price Index." In fact, this was one of the highest inflationary periods in recent US history.
Remember, inflation as presented by the CPI and PPI are expressed as annual averages.
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CPI (Consumer Price Index) and PPI (Producer Price Index) are price index numbers which have a certain base year commodity basket implicit in their computation. Market basket is essentially a standardised set of weights, each weight represent the proportion of a particular commodity/ service in the base year basket of consumption in the case of CPI and of production in the case of PPI. The Price Index for different years and months/ weeks are computed by taking the current prices in the relevant year/ month/quarter and averaging them using the weights in the base year consumption basket. And the average price level for the period is then first divided by the average price level for the base year and the result then multiplied by 100 to arrive at the Index number for the period.
Inflation rate is then worked out by observing the index numbers of two periods as computing the following:
[ Index number for period t - index number in period (t-1)*100/ index number for period (t-1). This is called the inflation rate for the period t.
Note: The Bureau of Labor and Statistics maintains detailed information on the US economy. This information is used to to determine at what rate the US economy is growing, shrinking, inflating, or deflating. As a general trend, the US economy has been going through a long term of inflation. Since 1913, the BLS has published monthly and annual data on the economy. This data is presented in the Consumer Price Index (CPI). The CPI is a representation of what a "basket of selected goods" might cost in many urban areas of the USA. As the cost of these "basket items" increase, so does the CPI index. For instance, in 1913, these "basket of goods" might have cost a consumer $9.90. By 1950, those same goods might have cost $24.10. By the year 2000, they had risen to $169.00. While these actual numbers are not really what one would have paid for the BLS basket of goods, the analogy is accurate. We can explain this comparison by a general trend of inflation in the US economy; over time the same goods and services cost more than before.
In 1947, the BLS started publishing data on the production sector of the US economy. This index is called the Producer Price Index. The PPI is a very useful tool for estimating annual inflation rates for producers. Its uses are many and its application important to the production sector. In addition to producing this index for all producers, the BLS maintains very detailed information on many sectors of the economy. From this data set, we can get information on logging, lumber, and related industries. More on that later in this page.
How do we get Inflation from the index?
In order to change the data found in the index to a meaningful annual inflation rate, we have to know how to manipulate the data. If you have already been to the Finance section of this web domain then by chance you have already seen one of our investment formulae called the Present Value of a Single Sum. It looks something like this:
Vo = Vn / (1+i)^n
If we make a few changes to this formulae we can use it to calculate our inflation in the economy. The way to do it is like this; first, I consider that Vn is our future value and V0 is our present value. We can easily exchange those for the later value in the Index and the prior value in the index, respectively. By rearranging the items and solving the equation for " i " we come up with the following:
f= nth root of (CPIn/CPIo) -1
Where: f = annual inflation rate
CPIn = Consumer Price Index at year "n"
CPI0 = Consumer Price Index at year "0"
n = interval, in years, between CPIn and CPIo
Over the period 1978 to 1981, what was the average annual inflation rate, as measured by the CPI?.
If we take a look at the CPI we can see that the CPI in 1978 was 65.2 and in 1981 it was 90.9. There were 3 full years separating these measures so we are ready to make an estimate: cube root of (90.9/65.2)-1 = 11.71 %
We interpret this number by saying, "Over the 3 year period from 1978 to 1981, inflation averaged 11.71% per year, as measured by the Consumer Price Index." In fact, this was one of the highest inflationary periods in recent US history.
Remember, inflation as presented by the CPI and PPI are expressed as annual averages.
References :
http://my-forest.com/economics/index.html