Inflation

Measuring inflation:

Retail price index (RPI)/ Consumer Price Index (CPI):

The most commonly used price index is the Consumer Price Index (CPI) which is also known as the Retail Price Index (RP I). This index is basically arrived at by following an 'identical basket of goods' in a country over time in order to show the change in the overall price level. In the Uk for example it is calculated each month by taking a sample of goods and services (approx 600), which the typical household might buy. Included are such items as food, heating, housing, household goods, bus fares and petrol.

The data below follows such a basket in the UK over a year.

Chewing gum +100%

Food +5%

Housing : No change

Clothing: +5%

Now we could just average these out and find that inflation is 27.5%. However that would only be accurate if we spent the same amount on each good.

Note that often these indexes are referred to as weighted indexes- which means that different goods and services will have differing effects on inflation. In general the more of our income we spend on a good, the more it will affect the CPI. ( in other words a 5% increase in the cost of housing will change the CPI more than a 5% change in the cost of matches)

Also note that index numbers are often shown relative to a starting value of 100 (the base value or base year) so if the first year prices were 100 then in yr 2 we had a value of 130, this would mean that inflation was 30%.