PCE and CPI Inflation Differentials: Converting Inflation Forecasts
2008; Taylor & Francis; Volume: 93; Issue: 1 Linguagem: Inglês
ISSN
1532-4168
Autores Tópico(s)Fiscal Policy and Economic Growth
ResumoThe Federal Reserve recently announced it will begin to release quarterly inflation forecasts based on Personal Consumption Expenditure Price Index. As Chairman Bernanke said, PCE index is generally thought to be the single most comprehensive and theoretically compelling measure of consumer At same time, Bernanke said that single measure of inflation is perfect, and Committee will continue to monitor a range of measures when forming its view about inflation prospects.Another inflation measure FOMC will continue to watch closely is Consumer Price Index. The CPI is better known to public than PCE price index, and many contracts and government programs are indexed to it. Both CPI and PCE index are important gauges of consumer inflation for policymakers and analysts concerned with price stability.The public and private sectors alike will want to be able to convert CPI inflation forecasts released by various organizations to PCE inflation forecasts, and vice versa. If overall and core differentials between PCE and CPI inflation never changed, converting from one measure to other would be as simple as converting temperatures from Celsius into Fahrenheit. But inflation differentials can change significantly over time. For example, overall inflation differential for five years ending in mid-2002 fell from 0.6 percentage point to half that level over next five years. At same time, core inflation differential fell even more sharply, from 0.74 to 0.05 percentage point.To convert between CPI and PCE inflation projections, economists must construct statistical models to explain and predict inflation differentials (overall and core), recognizing that differentials may change over time. Based on results in this article, a simple conversion factor tells us that core CPI inflation is about 0.3 percentage point higher than core PCE inflation. Using this core inflation differential, it is easy to convert midpoint of FOMCs central tendency for 2008 core PCE inflation of 1.8 percent to a core CPI inflation projection of 2.1 percent. Analogously, overall CPI inflation is about 0.4 percentage point higher than overall PCE inflation.Such conversion factors should be reassessed periodically as economic conditions change and new inflation data become available. This article estimates a set of models that analysts can use to make such conversions. The first section examines empirical differences between overall and core inflation measures and shows why these differences matter. The second section shows that no single explanation can account for how inflation differentials change over time. The third section estimates a set of statistical models that can be used to translate between CPI and PCE inflation forecasts. The fourth section discusses results of models.I. OVERALL AND CORE INFLATION DIFFERENTIALSThe consumer price index and personal consumption expenditure price index are both designed to capture changes in consumer prices. While similar, two measures have important conceptual differences. One effect of differences is that CPI inflation tends to be greater than PCE inflation. Another effect is that inflation differentials between two measures vary over time.1A number of fundamental differences distinguish two inflation rates. Produced by Bureau of Labor Statistics (BLS), CPI is designed to measure price of out-of-pocket spending of urban consumers. In contrast, PCE price index is produced by Bureau of Economic Analysis (BEA) and measures prices of goods and services purchased by persons, individuals, and nonprofit institutions in National Income and Product Accounts-so-called personal consumption expenditures (PCE). In addition to spending by households, PCE measures spending on behalf of households. For example, PCE spending on medical care includes both direct purchases of medical care by households and purchases on behalf of households by employers or government programs. …
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