What Is Core Inflation?

The new inflation numbers are out, and they aren’t pretty. The Consumer Price Index (CPI) went up 0.3 percent during April, and is up a total of 8.3 percent over the last year. This is a slight improvement over last month’s 8.5 percent. More troubling is the core CPI reading, which increased 6.2 percent over the last year. What is this core inflation number, and why is it useful to know?

Core CPI is calculated the same way as standard CPI—take a hypothetical basket of goods and track their prices over time. The difference is that Core CPI removes the food and energy parts of the basket. The reason for this is that, contrary to popular belief, CPI doesn’t directly measure inflation.

Inflation is monetary; it has to do with the money supply growing at a different rate from real goods and services. The trouble is that non-inflation price changes are happening at the same time. These can be due to supply and demand shocks, changing tastes, seasonal patterns, and other factors. The CPI can’t tell how much of a price change is due to monetary inflation and how much is due to non-inflation factors like supply and demand. It just tracks price changes in a hypothetical basket of goods without asking what caused them.

Food and energy prices are notoriously volatile, which means that a lot of those changes have nothing to do with inflation. Grocery stores and gas stations change their prices every day. They can take enormous swings for reasons that have nothing to do with the money supply, such as Putin’s invasion of Ukraine or new regulations.

Taking food and energy out of the equation, as Core CPI and similar core inflation measures do, helps to keep the focus on inflation-related price increases. It isn’t perfect, because other goods are constantly subject to non-monetary price changes, too. But for those interested in tacking monetary inflation, core inflation is an improvement on the standard CPI.

It’s possible that inflation is at or near its peak right now. There is a lag time of up to a year and a half between the Fed’s monetary moves and their taking effect throughout the economy. The Fed increased the money supply by nearly $5 trillion during the pandemic, which caused most of the inflation we’re seeing now. The Fed stopped its big bond buy in March, and in June will begin slightly selling bonds. It will take some time before that shows up in any data.

Time will tell, but given that lag, it is possible we’re at or past the very worst of the current inflation, though it likely won’t significantly ease up until well into next year. Core CPI and other core-style indicators will help to give a more accurate picture of that process as it happens than will the standard CPI headline number.