The Magnitude and Consequences of the Bias

The Boskin Commission in 1996 estimated the bias overstates the inflation rate by about 1.1 percentage points a year.

Any bias in the CPI matters because many contracts and payments are indexed to the CPI, including Social Security. Close to 1/3 of government outlays are linked to the CPI.

Alternative Price Indexes

Three alternative to the CPI are:

Chained CPI: The chained CPI is calculated similarly to chained GDP (discussed in the Mathematical Note to the previous chapter.) The chained CPI incorporates both new goods and the substitution of one good for another and so overcomes these sources of bias. But the difference between the chained CPI and regular CPI is small: on average, since 2000 the chained CPI is 0.3 percentage points lower per year.

Personal Consumption Expenditure Deflator (PCE deflator): The deflator from nominal and real consumption expenditure. The PCE deflator equals  The basket of goods in the PCE deflator is broader than the basket in the CPI because it includes all consumption expenditure.

GDP Deflator: Similar to the PCE deflator, the GDP deflator is from nominal and real GDP. The GDP deflator equals  The difference between the GDP deflator and regular CPI is small: on average, since 2000 the GDP deflator is 0.2 percentage points lower per year.

Core CPI Inflation

The inflation rate is often volatile. To strip out the volatile elements and focus on the underlying trend inflation, the core inflation rate is used. The core inflation rate is the CPI inflation rate excluding volatile elements. The core CPI inflation rate equals the percentage change in the CPI excluding food and fuel prices.