Question

Is the CPI a good way to measure the cost of living? What are the limitations and why are these important to economics?

Answer 1

The consumer price index (CPI) is a measure of the aggregate price level in an economy. The CPI consists of a package of commonly purchased goods and services. The CPI measures changes in the purchasing power of a country's currency and the price level of a basket of goods and services.

I'm of the opinion that CPI is not a good parameter to measure a cost of living because of Many reasons as follows:

The main one is that, in a nutshell, it specifically excludes housing and energy prices, arguing that these prices are highly volatile and therefore would add noise to the CPI measure. These two categories are also two of the top expenses every American has; they need a place to live and must go to work. A loaf of bread can cost the same dollar, something in New York, Dallas and Los Angeles, but the difference in the average price per square foot to rent or own a home is very different between these three markets. That is between 30 and 50% of the net salary of an average family. So gasoline prices vary significantly; A regular quality unleaded gallon currently costs about $ 3.12 in the Bronx, about $ 3.34 in Los Angeles, but only $ 2.25 in Dallas. This tends to be a less significant but still notable subsection of the average family budget; You can spend $ 30 or $ 300 per paycheck on your trip, depending on the vehicle and mileage, but either way, that cost must be paid if you expect to keep earning, so in addition to the energy prices listed in the expenses general. of consumer goods. prices, higher energy costs reduce the “discretionary income” that could be spent on other consumer goods. It's a double whammy.

Certain taxes are also excluded from the CPI, mainly taxes not included in the "tag price" of the good (most sales and use taxes are not included in the indicated retail price), but as we know from Econ 101, the Taxes tend to The supplier and consumer bear it around 50-50 as the market establishes an equilibrium price around this tax (similar in many respects to a market spread such as the bid and ask spread on stock exchanges ). So in a state with a sales tax, take half of that rate and add it to the price, and that's what you would expect to pay in a state with no sales tax (Oregon, Montana, and New Hampshire don't have a tax on sales, so this exercise is not merely hypothetical). Then add the other half and that's what actually comes out of the consumer's wallet for the widget being tracked.

That's the last one; the IPC is overseen by the Bureau of Labor Statistics through a "secret shopper" program; the BLS pays people to go to some local stores, write down the price of a list of specific products, and report it to the BLS. The exact full list of goods that are tracked in the aggregate and how each of those price figures in the index (weight, etc.) is secret; If it was widely known how the CPI is calculated, it is possible that large national retailers would manipulate it to obtain some calculable profit. However, it is highly unlikely that the list is complete and exhaustive and encompasses all existing brands and product lines. It also does not take into account the relative sales volume of competing products, again due to volatility and the ability of retailers to mislead the numbers given the knowledge of what the BLS is interested in. From diapers, when people are actually buying the store brand. because it is significantly cheaper, and this will cause a discrepancy in the registered price with the price actually paid. When Kimberly-Clark raises the Huggies price, the CPI moves by a small amount, but a household that buys Target's Up And Up diapers will only see a change if the Huggies price increase reduces price pressures on suppliers at that time. segment. This is not guaranteed to happen at the same time.

All of these things combine to make the CPI a useful but not perfect indicator of the relative cost of living, comparing different areas of the country and different points in time. This is probably as good a snapshot as we are likely to get without requiring retailers to provide detailed and complete information on prices and inventory movements to the BLS.

Limitations of CPI :

I) The consumer price index may not be applicable to all population groups. For example, CPI-U better represents the urban population of the US but does not reflect the status of the population in rural areas.

II) The CPI does not produce official estimates for subgroups of a population.

III)The CPI is a conditional measure of the cost of living and does not measure all aspects that affect the standard of living.

IV) Two areas cannot be compared. A higher index in one area compared to the other does not always mean that prices are higher in that area.

Social and environmental factors are beyond the scope of the index definition.

Importance :

I) To serve as an economic indicator: Naturally, the Consumer Price Index is a measure of the inflation faced by the end user. A steady increase in the index indicates overall economic growth because inflation is driven by growth. However, an uncontrollable rise in the CPI indicates a phase of declining growth in which an increasing proportion of the population cannot afford basic goods and services.

II) To adjust other economic series for price changes: For example, the components of national income could be adjusted using the CPI.

III)Adjust the cost of living of wage earners and social security beneficiaries and avoid an inflation-induced increase in tax rates.