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How Well Does "Core" CPI Capture Permanent Price Changes?

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Author Info

  • Tara Sinclair

    () (Institute for International Economic Policy, George Washington University)

  • Dennis W. Jansen

    () (Department of Economics, Texans A&M University)

  • Michael D. Bradley

    () (Economics Department, George Washington University)

Abstract

We decompose core CPI and the food and energy CPI measures into permanent and transitory components using a correlated unobserved components model, to examine the behavior of core CPI when subject to shocks and to examine the claim that core CPI captures the persistent part of headline CPI. We find that the permanent component of core CPI is more volatile than core CPI, or that the permanent and transitory components are highly correlated. We find that the excluded food and energy components have important permanent components, and that core CPI has an important transitory component. We examine impulse response functions and find that headline CPI inflation responds more sharply to shocks than core CPI inflation, and after the first year the impact of shocks on headline inflation is less than the impact on core inflation.

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Bibliographic Info

Paper provided by The George Washington University, Institute for International Economic Policy in its series Working Papers with number 2010-09.

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Length: 34 pages
Date of creation: Oct 2009
Date of revision:
Handle: RePEc:gwi:wpaper:2010-09

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Web page: http://www.gwu.edu/~iiep/
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Keywords: unobserved components; core CPI; food CPI; energy CPI; inflation;

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  1. Mark A. Wynne, 1999. "Core inflation: a review of some conceptual issues," Working Paper Series 5, European Central Bank.
  2. 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.
  3. Robert Rich & Charles Steindel, 2005. "A review of core inflation and an evaluation of its measures," Staff Reports 236, Federal Reserve Bank of New York.
  4. Andrew Bauer & Nicholas Haltom & Wiliam Peterman, 2004. "Decomposing inflation," Economic Review, Federal Reserve Bank of Atlanta, issue Q 1, pages 39 - 51.
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