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Comparing Consumer Price Index and the Breakeven Inflation Rate

Long and Ware

This graph is the CPI for All Urban Consumers: All Items Less Food and Energy.

The Consumer Price Index measures the cost of the market basket for a typical urban American family. The reason why food and energy are not included is that they often have very volatile prices, while goods and services that are represented like housing, recreation, and medical care are more stable. For this reason, the CPI represented is known as "Core CPI". Inflation is an overall increase in prices of goods and services, which results in a higher priced market basket that is CPI.

This graph contains the 5-Year Breakeven Inflation Rate.

According to the U.S. Bureau of Labor Statistics, significant increases and decreases in the CPI indicate periods of inflation and deflation over a short time frame.  Both graphs represent this through quarterly percent change, from quarter to quarter, over the past five years.

The above graphs provide supporting evidence for the relationship between CPI increases and inflation, as well as CPI decreases and deflation. For inflation, three significant peaks occur in Q2 2015, Q2 2016, and Q4 2016. Three peaks also occur for CPI in Q2 2015, Q2 2016, and Q1 2017. It is evident that there is a relationship between they are the same for the first two and a quarter difference for the third. For the troughs, which show deflation, occur in Q4 2014, Q3 2015, Q3 2016, and Q2 2017. As for significant decreases in CPI, they occur in Q3 2014, Q3 2015, Q3 2016, Q3 2017. All are within a quarter difference of the other, showing a significant relationship. The peaks and troughs noted show that there is, in fact, a strong relationship between inflation and the CPI.

The Prof: I add here a graph of core CPI QoQ inflation using seasonally adjusted data. As you can see, the peaks and troughs are quite different. An alternative to using seasonally adjusted data is to use the unadjusted data but with the percent change YoY (year over year) rather than QoQ.
More later on what the "breakeven inflation measure" represents – it's a government bond-derived measure so is not quite what it sounds like.

U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items [CPIAUCSL], retrieved from FRED, Federal Reserve Bank of St. Louis;, January 18, 2018.

13 thoughts on “Comparing Consumer Price Index and the Breakeven Inflation Rate

  1. Evans Alison

    Aidan, this was very interesting to read. It makes since that as inflation rates rise so would the Core CPI and that as deflation rates increase the Core CPI decreases. You did a good job of showing this by referencing the two graphs above, making it very easy to follow.
    I look forward to following this trend in the future, even though I think it will continue.

    1. longa20

      I too look forward to continue to follow the trend in the future, and am thankful that you enjoyed my usage of two graphs to show my point.

  2. Chris Surran

    Aidan, I really enjoyed this post. The graphs are quite similar after q4 2014. Do you feel there is a reason that the graphs do not match as well before q4 2014?

  3. Cade Hornak

    Aidan, these charts demonstrate an interesting trend between CPI and inflation. Of course, it makes sense that prices would increase as inflation rises too, but did you uncover any other drivers of CPI? Is inflation the main driver of CPI? Thanks!

  4. moraifa19

    Thanks for the visual explanation of the correlation between CPI and inflation and deflation. If CPI increases, we have inflation and if CPI decreases we have deflation. It is interesting to see how the cost of this market bundle has implications for our economy.

  5. Katie Paton

    I liked how you explained the CPI in the beginning and why food and energy are not included, as I did not know that food was excluded from CPI. The CPI graph you selected is very interesting as it seems that CPI generally peaks between Q1 & Q2 and has troughs in Q3. It is surprising that CPI dropped so much during March 2017 as it is the only time between 2013 and 2017 that CPI has a negative percent change.

    1. longa20

      I agree, it is interesting that CPI dropped so much during March of last year. I wonder if it had anything to do with the first few months of the president?

  6. clintong20

    CPI seems to have a direct effect from current events or political logistics. I would definitely credit the drop in March to the presidency, and may the be because of excessive exports/decreased value of the American dollar?

  7. hallk20

    In the graph that Prof Smitka added, it is interesting to see the dramatic drop as we entered 2017. Do we believe this came from the political climate of the time or perhaps the new laws which have been passed? What could have happened in march 2017 that caused such a dramatic drop?

  8. bearupk20

    This was a very interesting post. It makes sense that the market baskets consumed by households are not exempt from the effects of inflation, and the graphs you used in your blog post do a good job of bringing light to this fact. The significant drop in Core CPI (the graph Prof Smitka added) in 2017 was very interesting and it would be fascinating to look into the reasons why this was so significant, and how the CPI returned back to its normal percent change shortly after.

  9. Lauren Fredericks

    I appreciate the idea of Core CPI. I think that because most of us drive, and because we've heard stories from our parents, we all know the volatile nature of gas prices. They often have little to do with the actual trajectory of the economy.
    In the graph Professor Smitka contributed, the fall in March of 2017 is quite dramatic. I wonder why this is? Does it have to do with the change in administration, and if so, was it influenced by expectations or actual policy changes?

  10. wickhamj20

    I think it is quite interesting that there is a strong correlation between the core CPI and inflation. Early in the article you mention how food and energy are removed from CPI due to the volatility of those items. I find it very interesting that the CPI would not be created with inflation in mind so one could see the true CPI on an economy without having to deal with inflation. This makes sense that they would be close as inflation rises the price of goods so the price of the CPI would increase directly afterwards which is shown in the graphs.

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