How is Inflation Calculated? 

There are two primary methods for calculating and tracking inflation. Both methods are informed by the cost of goods, but one tracks changes in prices for everyday items, and the other calculates a broader view of spending patterns.  

Methods Used to Calculate Inflation 

Consumer Price Index (CPI) 

The consumer price index is one of the most widely used methods for calculating inflation and deflation. It measures the monthly changes in the prices paid by U.S. customers. Government bodies like the Bureau of Labor Statistics calculate it as a weighted average of thousands of prices, which represent a basket of goods and services typically purchased by consumers. 

The CPI includes categories like food, clothing, housing, medical care, and other elements like user fees and taxes. After the price data is gathered and weighted to reflect the spending behavior of U.S. households, it is divided by the data from the previous period.  

Controversy of the CPI 

Although the CPI measures changes in the cost of goods and services, it may not fully calculate changes in the purchasing power of a currency. Critics may also note that few methods can account for substitutions made by consumers facing inflated prices. For example, if the price of beef undergoes a dramatic increase, consumers may substitute chicken for their main protein.  

Personal Consumption Expenditures Price Index (PCE) 

The PCE is reported on by the Bureau of Economic Analysis, which collects much of the same spending data with weighted averages. Unlike the CPI, which assesses the price of goods and services, the PCE focuses on the total spending of a given period. This total is divided by data from the previous period to gauge inflation. 

The PCE is issued in two versions: One addresses all spending categories and evaluates overall changes to prices and the second, a core PCE index, excludes energy and food costs. 

Differences Between the CPI and PCE 

  CPI PCE 
Purpose Tracks changes to price of commonly bought goods Tracks changes in consumer spending 
Composition Focuses on a fixed basket of goods and services Focuses on actual consumer spending 
Coverage Urban wage earners, excluding rural populations and the military Encompasses all households, urban and rural 
Components Includes housing but excludes investment items like stocks and bonds Encompasses a broad range of durable goods, non-durable goods, and services 

Limitations of the CPI and CPE 

Both the CPI and CPE are useful for identifying inflationary issues, broad changes to spending habits, and emerging economic trends. However, neither can account for diversity in spending patterns, and both have difficulty expressing the true rate of inflation as it relates to the buying power of a dollar. 

How does Inflation Impact Purchasing Power? 

Calculating true inflation, or the real current purchasing power of money requires more than just CPI or CPE. These two tools are useful for evaluating economic data, but they have limitations. Purchasing power represents the amount of goods or services a currency can buy at a given time.  

Calculations like CPI provide insight into the costs of goods and services but do not fully address the growth or loss of the value of a dollar. While the price of dinner may have risen, if the value of a dollar has fallen, then CPI may not account for the extra cost. Since the inflated price of dinner would be the extra cost of the meal as well as the cost in lost purchasing power to pay for the meal, it requires calculating both the lost purchasing power and the inflated price. 

To calculate this, CPI is useful. Past purchasing power in recent dollars can be found by multiplying a dollar amount by the current period CPI and dividing that result by the past CPI.  

If the past CPI is 20 and the current CPI is 10, the lost purchasing power of $1 would be found by using the following equation: ($1 x 10) ÷ 20 = 0.5. In this simplified example, the purchasing power of a dollar would be 50% of $1. In this case, the real inflation rate would be -50%. Negative inflation rates may indicate prices are rising faster than what the nominal CPI reports and it is paramount to consider real inflation when evaluating the impact inflation has on your portfolio. 

Quick Guides to Investing

Step 1:

Why Buy Physical Gold and Silver?

If you are concerned about the volatility of the stock market, you’re not alone. The extreme highs and lows of the stock market often lead investors towards safe-haven assets, like bullion. Historically, the Precious Metals market has an inverse relationship with the stock market, meaning that when stocks are up, bullion is down and vice versa.

Step 2:

How Much Gold and Silver Should You Have?

This question is one of the most important for investors to answer. After all, experts suggest limits on how much of any types of investments should go into a portfolio. After deciding to purchase and own Precious Metals and considering how much money to allocate, one can then think about how much and what to buy at any point in time.

Step 3:

Which Precious Metals Should I Buy?

With the frequent changes in the market and countless Precious Metal products available, choosing investments can be difficult. Some want Gold or Silver coins, rounds or bars while others want products that are valuable because of their design, mintage or other collectible qualities. Also, collectors may shop for unique sets and individual pieces for their collections.

Step 4:

When to Buy Gold & Silver

After considering why, how much, and what Precious Metals products to buy, an investor’s next step is when to buy them. This decision requires an understanding of market trends and the impact of economic factors on precious metal prices.

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