Difference between CPI and Core CPI

The difference between CPI and PCE seemed relatively insignificant. However, a big issue is the difference between CPI and Core CPI.


CPI is the consumer price index. A measure of the cost of living for the typical person.

Core CPI is the CPI – energy and food prices.

Energy and food prices are removed because they have tendency to be highly volatile.

This graph of Core CPI and CPI in the US shows how volatile CPI can be.




Core CPI
Source: 1
Blue line – CPI
red line – Core CPI – without volatile prices.

Policy Implications of Core CPI

This clearly has policy implications. If we look only at CPI, monetary authorities may be inclined to change interest rates more frequently. For example, in 2008, we had a rise in energy prices causing cost push inflation of 5%, a few months later we were in deep recession. In other words CPI can give a misleading impression of underlying inflationary pressures. If you tighten monetary policy because of temporary food and energy inflation, you create potential for slowing down economy. Similarly when there is a slump in energy and food prices, there is a danger monetary policy can become too lax, creating future underlying inflation.
It is true that consumers have to face rising food prices and rising energy prices. I don’t suggest indexing linking pensions to Core CPI. This could give pensioners an increase in benefits less than there cost of living.
However, it is important for the Bank of England and monetary authorities. It explains why the Bank of England haven’t been increasing interest rates in response to inflation above target.
There is a danger temporary cost push inflation could lead to higher inflation expectations. But, this is not convincing.