How Well Does "Core" Inflation Capture Permanent Price Changes?
AbstractDoes excluding food and energy prices from the Consumer Price Index (CPI) produce a measure that captures permanent price changes? To examine this question we decompose CPI inflation and "core" inflation into their permanent and transitory components using a correlated unobserved components model. One of the key aspects of the correlated unobserved components model is that it allows shocks to the permanent component to potentially be more variable than shocks to the series itself, due to offsetting transitory shocks correlated with the permanent shocks. The stationarity of inflation may be time-varying, so we examine the performance of the core measure of inflation for periods during which it appears that inflation is I(1) and for periods during which it appears that inflation is I(0). For a period in which inflation appears to be I(1), we find that core inflation and the permanent component of overall inflation are closely related, although core inflation does have some drawbacks as a measure of permanent inflation. For a period in which inflation appears to be I(0), we decompose the core and overall price levels and find that the permanent component of core CPI is much more volatile than the actual core series and that core excludes volatile permanent shocks to the overall price level.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University in its series CAMA Working Papers with number 2013-26.
Length: 41 pages
Date of creation: May 2013
Date of revision:
Contact details of provider:
Postal: Crawford Building, Lennox Crossing, Building #132, Canberra ACT 0200
Phone: +61 2 6125 4705
Fax: +61 2 6125 5448
Web page: http://cama.crawford.anu.edu.au
More information through EDIRC
Consumer Price Index; Inflation; Unobserved Components; Food and Energy Prices;
Other versions of this item:
- Michael D. Bradley & Dennis W. Jansen & Tara M. Sinclair, 2013. "How Well Does "Core" Inflation Capture Permanent Price Changes?," Working Papers 2013-4, The George Washington University, Institute for International Economic Policy.
- C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
- E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
This paper has been announced in the following NEP Reports:
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Murray, Christian & Nikolsko-Rzhevskyy, Alex & Papell, David, 2008. "Inflation Persistence and the Taylor Principle," MPRA Paper 11353, University Library of Munich, Germany.
- James H. Stock & Mark W. Watson, 2006.
"Why Has U.S. Inflation Become Harder to Forecast?,"
NBER Working Papers
12324, National Bureau of Economic Research, Inc.
- James C. Morley & Charles R. Nelson & Eric Zivot, 2003.
"Why Are the Beveridge-Nelson and Unobserved-Components Decompositions of GDP So Different?,"
The Review of Economics and Statistics,
MIT Press, vol. 85(2), pages 235-243, May.
- Tom Doan, . "RATS programs to replicate Morley-Nelson-Zivot state space decomposition," Statistical Software Components RTZ00115, Boston College Department of Economics.
- Martin Bodenstein & Christopher J. Erceg & Luca Guerrieri, 2008.
"Optimal monetary policy with distinct core and headline inflation rates,"
International Finance Discussion Papers
941, Board of Governors of the Federal Reserve System (U.S.).
- Bodenstein, Martin & Erceg, Christopher J. & Guerrieri, Luca, 2008. "Optimal monetary policy with distinct core and headline inflation rates," Journal of Monetary Economics, Elsevier, vol. 55(Supplemen), pages S18-S33, October.
- Aaron Smith, 2005.
"Forecasting in the presence of level shifts,"
Journal of Forecasting,
John Wiley & Sons, Ltd., vol. 24(8), pages 557-574.
- James C. Morley, 2007. "The Slow Adjustment of Aggregate Consumption to Permanent Income," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(2-3), pages 615-638, 03.
- Pivetta, Frederic & Reis, Ricardo, 2007. "The persistence of inflation in the United States," Journal of Economic Dynamics and Control, Elsevier, vol. 31(4), pages 1326-1358, April.
- James Morley & Irina B. Panovska & Tara M. Sinclair, 2013. "Testing Stationarity for Unobserved Components Models," Discussion Papers 2012-41A, School of Economics, The University of New South Wales.
- Stephen Leybourne & Tae-Hwan Kim & Vanessa Smith & Paul Newbold, 2003. "Tests for a change in persistence against the null of difference-stationarity," Econometrics Journal, Royal Economic Society, vol. 6(2), pages 291-311, December.
- James H. Stock & Mark W. Watson, 2007. "Erratum to "Why Has U.S. Inflation Become Harder to Forecast?"," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(7), pages 1849-1849, October.
- Bradley, Michael D & Jansen, Dennis W, 1986. "Federal Reserve Operating Procedure in the Eighties: A Dynamic Analysis," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 18(3), pages 323-35, August.
- Michael T. Kiley, 2008. "Estimating the common trend rate of inflation for consumer prices and consumer prices excluding food and energy prices," Finance and Economics Discussion Series 2008-38, Board of Governors of the Federal Reserve System (U.S.).
- Kang Kyu Ho & Kim Chang-Jin & Morley James, 2009. "Changes in U.S. Inflation Persistence," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 13(4), pages 1-23, September.
- John M. Roberts, 1994.
"Is inflation sticky?,"
Working Paper Series / Economic Activity Section
152, Board of Governors of the Federal Reserve System (U.S.).
- Beveridge, Stephen & Nelson, Charles R., 1981. "A new approach to decomposition of economic time series into permanent and transitory components with particular attention to measurement of the `business cycle'," Journal of Monetary Economics, Elsevier, vol. 7(2), pages 151-174.
- Tara M. Sinclair, 2009.
"The Relationships between Permanent and Transitory Movements in U.S. Output and the Unemployment Rate,"
Journal of Money, Credit and Banking,
Blackwell Publishing, vol. 41(2-3), pages 529-542, 03.
- Tom Doan, . "RATS programs to replicate Sinclair(2009) bivariate state-space model," Statistical Software Components RTZ00151, Boston College Department of Economics.
Blog mentionsAs found by EconAcademics.org, the blog aggregator for Economics research:reading list or among the top items on IDEAS.Access and download statisticsgeneral information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Cama Admin).
If references are entirely missing, you can add them using this form.