The Driving Forces Behind the Closely Watched Consumer Price Index (CPI)

Brian Burton

By: Brian Burton, CFP®


Key Takeaways:
  • CPI is the average change in the prices paid by consumers for a basket of goods and services over time that demonstrates price trends within the economy
  • The Bureau of Labor Statistics (BLS) reports index weights for eight major categories and many more specific items resulting in the CPI’s “market basket”
  • Shelter, food and transportation are the three largest components of CPI at nearly 60% of the index



The consumer price index, or CPI, has been all the rage this year and remains a huge thorn in the side of the Federal Reserve.  There were hopes that last week’s print would show signs of declining inflation but that quickly faded when the Labor Department reported that the September CPI increased 8.2% over the past 12 months, more than what was expected.  This continued mismatch of supply and demand has kept the Fed busy raising interest rates with hopes of slowing consumer demand and bringing inflation down to the central bank’s 2 percent target.  The market is now fully expecting another 75 Basis Points (bps) rate hike when the Federal Open Market Committee (FOMC) meets on November 1-2, bringing the fed funds rate to between 3.75%-4%, and reaching a terminal rate of 4.7% in early 2023.


When it comes to measuring inflation, the two primary gauges that attract the most attention are the consumer price index (CPI) and the personal consumption expenditures price index (PCE).  PCE is the Fed’s preferred gauge because it has a broader scope and better explains how consumer behavior changes with rising prices.  However, the CPI remains the most widely used metric and is a key economic indicator impacting Social Security payments, the federal tax structure, wages and salaries, and many other areas of the economy and financial markets.


The CPI plays an important role in our economy, and changes in the data affect almost everyone in one way or another.  Let’s look at what the index is comprised of and what areas of the economy have the biggest impact on the rate of change.  It starts with the Bureau of Labor Statistics collecting price data via surveys in 75 urban areas across the country from some 6,000 housing units and 23,000 retail establishments.  This data is sorted into more than 200 categories under eight major groups, whose weightings are assigned based on the share of each good in the average consumer’s expenditure.  The housing/shelter component of the index is by far the biggest at 32%, followed by food and beverage at 14%, and transportation ranks third at 13%. The five other major categories that round out the index include medical care, energy, recreation, apparel, and education and communication.


With the prices of shelter, food, and transportation up 6.6%, 11.1%, and 10.8% respectively, over the last 12 months, it is easy to see why the consumer price index remains problematic for the Federal Reserve.  Inflationary pressure that was once referred to by the Fed as “transitory” has proven to be anything but short-lived and has led to a very aggressive tightening of monetary policy. Tamping down inflation with continual interest rate hikes without triggering a U.S. recession was already a bit of a conundrum for the Fed, but with the persistence of price increases that we’ve seen through the consumer price index, this tightrope walk has become even more challenging.


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