What is the Consumer Price Index?
The Consumer Price Index (CPI) measures the average change in prices paid by urban consumers for a representative basket of goods and services. In the US, the Bureau of Labor Statistics calculates CPI monthly using prices from approximately 80,000 items across 23,000 retail establishments. The index covers categories including housing (33% weight), food (14%), transportation (15%), and medical care (9%).
CPI and Investment Decisions
CPI directly influences central bank interest rate decisions, bond yields, and real returns on investments. When CPI rises above the central bank's target (typically 2%), rate hikes become more likely, pressuring bond prices and growth stocks. Investors use CPI to calculate real returns by subtracting the inflation rate from nominal returns. A portfolio returning 8% nominally with 3% CPI inflation delivers only 5% in real purchasing power.
Key Considerations
CPI has known limitations. It may not reflect individual spending patterns, and the basket composition changes over time. Core CPI, which excludes volatile food and energy prices, is often preferred by policymakers for trend analysis. Different countries calculate CPI differently, making direct international comparisons imprecise.