Which measures of inflation do Fed economists prefer?

St. Louis Fed Economist and Senior Vice President Mark Wright discusses inflation, the various measures of rising prices and the indexes that are the most meaningful to Fed economists. The views expressed in this video do not necessarily reflect those of the St. Louis Fed or the Federal Reserve System.

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00:00 - What is Inflation?
01:00 - The Fed's Preferred Measure
01:52 - What Is the Personal Consumption Index?
02:37 - Why Core PCE Is Preferred

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Transcript:
I'm Mark Wright, an economist and Senior Vice President at the Federal Reserve Bank of St. Louis. And today, we're going to talk about inflation, how it's measured, and how the Fed thinks about inflation as it moves forward into the future. So, inflation refers to the prices, and the way they change, of all the different goods and services that are produced and consumed in the economy. There's lots of different goods and services, lots of different prices, and lots of different ways to measure inflation.

Each of the different measures you hear about in the news are designed to capture a different aspect of inflation. The producer price index, for example, captures the prices that producers receive for the goods and services that they produce and sell. And the consumer price index, along with its closely related cousin, the personal consumption expenditure, or PCE, price index, is designed to capture the prices that consumers pay for the goods and services that they buy. The measure that the Fed thinks is the best for capturing the prices that consumers pay is the PCE, or personal consumption expenditure price index.

The reason we like that is that captures the prices paid by all consumers and some non-profit organizations in the economy and it captures not just the prices that you pay out of pocket, but the true cost of actually providing those things to you. For example, if your employer is providing medical care to you through its health insurance package, the full cost of that medical care is captured by the PCE measure, not just the out-of-pocket cost -- the copayment that you might pay -- when you go to see a doctor, for example.

So the American people, through their representatives in Congress, have given the Fed the mandate of trying to pursue stable prices. And so, we are focused on producing a stable or slowly moving price index for personal consumption expenditures. And, that includes food and energy. But as we think about where the economy is moving in the future, we want to look past what's happening on a day-to-day basis and try and think about where inflation is heading. And for that reason, we often look past what's happening to both food and energy prices. The reason is that they're very volatile. Energy prices go up and down as the price of oil goes up and down, and food prices go up and down depending on the season, the time of year, whether or not the harvest is good or not.

And because those things are so volatile, we want to look past them to try and project where inflation is going. That's not to say they're unimportant. We care about them and we are focused on delivering stable prices for all goods, but as we forecast the future, we tend to look past the movements in prices of food and energy. The measure that we prefer to look at as a target is the personal consumption expenditure index, and that includes both food and energy. But the best measure to look at when thinking about where inflation is going in the future is the core PCE index, the index that excludes food and energy. So if you're trying to think about where inflation is going and if you want to know what the Fed is looking at to see where inflation is going, you want to focus on that core PCE measure.

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