Price indexes

Price indexes are composite INDICATORS of the level of prices in the market being studied. Price indexes are used primarily to measure changes in the level of prices, or INFLATION. The BUREAU OF LABOR STATISTICS (BLS) maintains numerous price indexes for the U.S. economy. The three most widely quoted BLS price indexes are the CONSUMER PRICE INDEX (CPI), PRODUCER PRICE INDEX (PPI), and Gross Domestic Product Implicit Price Deflator (GDP deflator). The CPI is a statistical measure of the average prices paid by consumers for a typical “market basket” of goods and SERVICES. Measuring the rate of change in consumer prices is important to policy makers. Price changes are a critical concern in MONETARY POLICY, essential in evaluating economic conditions and indexing spending and taxes. The CPI is an important but controversial measure of price changes. The controversy centers on whether the CPI is truly representative of inflation; most U.S. economists agree it overstates the rate of inflation experienced by American consumers. On a monthly basis, the CPI samples prices around the country on typical goods and services. The sampling procedure determines an average price for each good and service, which is then multiplied by the assumed amount households typically purchase. This process “weights” the goods and services by their relative importance in consumers’ budgets. The sum of the prices times quantities are then divided by the cost of the same goods and services in a base year to create a price index.

Price index = [(cost of market basket today) / (cost
of market basket in base year)] x 100

The PPI, a monthly measure of prices received by producers, measures prices at the wholesale level. In 1978 the Wholesale Price Index (WPI) was renamed the Producer Price Index, which is actually a series of price indexes measuring the average changes in selling prices received by domestic producers. The BLS maintains over 500 industry price indexes, over 10,000 PRODUCT-line indexes, and 3,200 commodity price indexes. New PPIs are introduced as new products are created. Unlike the CPI, which measures prices paid by consumers, the PPI measures price changes from the seller’s perspective. The PPI is the oldest continuous statistical series maintained by the federal government. Its data are used by businesses and government as
• an economic indicator; PPIs signal price changes prior to changes at the retail level
• a deflator of other economic series; PPIs are used to adjust other economic time series for price changes (adjusting for inflation)
• a basis for CONTRACT escalation; PPI data are used to index and adjust purchase and sales contracts
The GDP deflator measures changes in the average price of all final goods and services in the economy. As such, it is the broadest measure of changes in the price level. The GDP deflator is implicit, or inferred, from measures of GROSS DOMESTIC PRODUCT (GDP). Current nominal GDP is compared to GDP adjusted to a base year (in 2001, the 1996 GDP was used as the base year) to obtain a ratio. For example, in 1999 nominal GDP was $9,248 billion, while 1999 GDP adjusted to the base year was $8,861 billion. Dividing the first number by the second yields a ratio of 1.043, which, when multiplied by 100 (as is customarily done), results in a GDP deflator value of 104.3 This says inflation, as measured by the GDP deflator, was 4.3 percent between 1996 and 1999.