Inflation has been in the news a lot recently. Even more apparent, inflation has been present in price tags in stores. But what exactly is inflation? And why is it so noticeable now?
The Bureau of Labor Statistics (BLS), the government agency tasked with measuring inflation, broadly defines it as “the overall general upward price movement of goods and services in an economy.” In other words, inflation occurs when a someone has to pay more for the same item or service. The BLS publishes several statistics related to inflation. For the purposes of this blog, we’ll focus on the Consumer Price Index, or CPI.
The CPI is calculated by looking at the change in price for a market basket of goods and services. What this means is that the BLS essentially “goes shopping” for a set list of items (goods and services) at two points in time and looks at the difference in the total cost for those same items. For example, if the market basket initially cost $100 but cost $101 the following month, the CPI for that month would be 1 percent. This method isn’t perfect in showing how price fluctuations affect individual consumers’ circumstances. For example, low-income households tend to have spending patterns that are not the same as the average market basket, so their experience with inflation may not be reflected in the official CPI calculation. However, the CPI does provide a broad estimate across all households.
The BLS calculates three different types of CPI: the CPI for All Urban Consumers (CPI-U), the CPI for Urban Wage Earners and Clerical Workers (CPI-W, a subset of the CPI that looks at households working at least part time), and the Chained CPI. The main difference with the chained CPI is that it accounts for people changing their spending behavior based on relative prices—for instance, if apples become really expensive, people might buy pears instead.
What exactly is happening with the inflation numbers currently? Based on data that the BLS released on Thursday, February 10, the CPI-U increased 0.6 percent from December 2021 to January 2022. From January 2021 to January 2022, the CPI-U increased 7.5 percent. Energy costs, particularly energy commodities (gas and fuel oil), were the largest contributors to the increase. Outside of food and energy costs, used vehicles also saw large price increases. For reference, an inflation rate around 2 percent is generally considered to be a “good” or “normal” amount of inflation.
One way that producers are trying to mitigate sticker shock to customers is through “shrinkflation” or “skimpflation.” Since price changes are more obvious to consumers, producers have shrunk their product sizes but continue to sell them for the same price. Skimpflation is similar—businesses offer fewer services or amenities for the same price that they did previously.
Of course, broader economic and societal conditions are also important to consider. Ongoing supply chain issues lead to inflation through the single most well-known economic concept – supply and demand. The reduced availability of products, without any change in demand, leads to higher prices on store shelves. This effect is even greater when demand does increase, as has occurred when consumers shifted their spending patterns during the pandemic to use fewer services and restaurants and instead purchase more food and goods for home entertainment.
While improvements to the supply chain issues over time could resolve some of the higher prices, more immediate response could occur as well. In light of recent inflation, the Federal Reserve (the U.S. central bank tasked with promoting price stability, among other things) has indicated that they could take action with the goal of slowing inflation down.