Glossary
Base Year
The reference year for a price index, whose value is typically set to 100, serving as the starting point for comparison.
Example:
When calculating the CPI, the base year is chosen as a benchmark, so if the CPI is 120 in a later year, it means prices have risen 20% since that benchmark.
CPI Calculation
The process of determining the Consumer Price Index by dividing the cost of the market basket in the current year by its cost in the base year, then multiplying by 100.
Example:
To perform a CPI Calculation, you'd first total the cost of a standard set of goods in both the current year and a chosen base year.
Consumer Price Index (CPI)
Measures the average price changes of a basket of consumer goods and services, like food, transport, and healthcare, representing the cost of a typical household's purchases.
Example:
If the Consumer Price Index (CPI) rises, it means your everyday purchases, from groceries to gas, are costing more than they used to.
Deflation
A general decrease in prices across an economy over time, which can lead to reduced consumer spending and economic slowdowns.
Example:
If electronics stores started consistently lowering prices on laptops and phones, that widespread price drop would be a sign of deflation.
Disinflation
A slowing down in the rate of inflation, meaning prices are still rising but at a less rapid pace than before.
Example:
If the annual price increase for college tuition dropped from 8% to 3%, that would be a period of disinflation.
Inflation
A general increase in prices across an economy over time, leading to a decrease in the purchasing power of money.
Example:
When the cost of your favorite candy bar keeps getting more expensive each year, you're experiencing inflation in action.
Inflation Rate
The percentage change in the overall price level of an economy within a year, indicating the speed at which prices are changing.
Example:
If the inflation rate is 5%, it means that, on average, goods and services cost 5% more this year than they did last year.
Inflation Rate Calculation
The method of determining the percentage change in the price level between two periods, typically calculated as the percentage change in the CPI.
Example:
After finding the CPI for two consecutive years, you can perform an Inflation Rate Calculation to see how quickly prices increased during that period.
Market Basket
A fixed set of consumer goods and services whose prices are tracked over time to calculate a price index like the CPI.
Example:
The typical family's monthly grocery list, including milk, bread, and eggs, could be considered part of a market basket used to measure inflation.
Price Index
A tool used to track changes in the general price level of a specific set of goods and services over time.
Example:
Economists use a price index to compare the cost of living in different decades, adjusting for changes in currency value.
Real Variables
Economic values that have been adjusted to remove the effects of inflation, providing a measure of true purchasing power or output.
Example:
While your nominal wage might increase, your real variables like purchasing power might decrease if inflation rises faster than your pay.
Stagflation
A rare economic condition characterized by high inflation, slow economic growth, and high unemployment simultaneously.
Example:
The 1970s oil crises led to stagflation, where gas prices soared while jobs were scarce.
Substitution Bias
A potential overstatement of inflation by the CPI because it doesn't fully account for consumers switching to cheaper alternative goods when prices rise.
Example:
If the price of steak skyrockets and people start buying more chicken, the substitution bias in the CPI might still count the higher steak price, overstating the true cost of living increase.