Question

Discuss how CPI can be used to compare minimum wage increases to inflation?

Answer 1

The Consumer Price Index (CPI) measures how much average prices are moving by surveying households to find their average spend on specific goods and services during a given time period and then comparing that total cost to previous time periods.

The group of goods measured by the CPI is called the market basket of goods and services. Generally speaking, the goods and services basket includes the most commonly purchased items for households across the U.S., such as housing expenses, groceries, transportation expenses, clothes, education expenses, health care, and more.

CPI is used in decision making by the government and private organizations alike. It can serve as a good economic indicator showing where our prices are going, and can also be used to measure how much a dollar of income will purchase—changes that show whether there is an increase or decrease in purchasing power with the same amount of money. In other words, it’s a common way to measure inflation since it objectively measures increases in the cost of consumer goods and services.

Some people also equate CPI with a cost-of-living measurement. While it is quite similar, CPI does not take all of the same factors into account. A true cost-of-living measurement would include other factors that affect an individual’s ability to afford the products, as well as other changes that affect quality of life. Nonetheless, CPI can be an acceptable proxy for cost-of-living changes in many applications, such as wage increases.

CPI can relate both directly and indirectly to wage increases, depending in part on your company policies. For example:

• If you generally try to base wage increases on increases in costs of living, CPI may be one gauge utilized to determine how much an individual’s cost of living has gone up in the course of a year. In this way, the change in CPI can be directly tied to the change in wages that an employer offers when making cost-of-living wage adjustments.
• CPI can also be used when determining differences in costs between different geographic locations. However, as noted above, it probably should not be the only consideration.
• CPI may also be specifically noted as the benchmark in wage escalation clauses, such as those often found in collective bargaining agreements.
• There is a direct correlation between annual CPI changes and changes to some types of fixed income, such as Social Security income and other government-sponsored programs.
• CPI can relate to wage increases indirectly because as the costs of goods go up, the wages required for new hires will also go up, regardless of whether an organization has already raised wages for existing employees. In other words, prospective recruits will most likely be more selective in what wage rate they are willing to accept. Individuals may become more sensitive to wage or raise levels if the costs of goods are increasing faster than wages.