Chained CPI Versus the Standard CPI: Breaking Down the Numbers

Thu, Oct 31, 2013 - 10:14am

Note from dshort: I've updated this commentary to include the latest Consumer Price Index data published yesterday.

The Consumer Price Index for Urban Consumers (CPI-U, or more generally CPI) is the most familiar gauge of inflation in the US. The data for the non-seasonally adjusted series stretches back a century to January 1913. But the news of late is about a relative newcomer to the inflation metrics of the Bureau of Labor Statistics (BLS), the Chained CPI for Urban Consumers (C-CPI-U). The BLS has a Frequently Asked Questions page on the Chained CPI that's been around for a while. At present the page footer says "Last Modified Date: April 6, 2005".

The reason the Chained CPI has been a hot topic in the news is that it's being proposed as the method for determining cost of living adjustments for Social Security. Here are some typical examples of the topic in the popular press:

For a snapshot comparison of how the conventional CPI and Chained CPI stack up against each other, I've created a variation on the CPI chart I've been updating monthly for the past several years here. The chart illustrates the overall change in inflation for CPI, Core CPI, and the eight top-level components of CPI since the turn of the century (more here). I also include energy, which is a collection of subcomponents, and College Tuition and Fees, a subcomponent of one of the top eight.

The BLS has published the data for these metrics for chained CPI from December 1999. The one missing element is College Tuition and Fees, a subcomponent of Education and Communication. The chart below pairs the two versions of each component showing the total change since December 1999. We can thus have a more educated sense of how the Chained CPI and conventional CPI differ from one another.

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A Five-Month Perspective

Let's take a closer look at the differences between CPI and Chained CPI over the past five months. The two tables below show the year-over-year calculation of the eight major components and the energy subcomponent.

The differences are subtle but widespread. Take one particularly significant example, Medical Care, an expense that generally increases for retirement-age households. In the tables below, Chained CPI comes in anywhere from 8 to 13 basis points lower each month.

The Bottom Line Comparison

Since December of 1999, the average year-over-year inflation calculated monthly based on the conventional CPI has been 2.39%. For equivalent calculation for the Chained CPI it is 2.13%, a difference of 0.26%.

The calculation for the Social Security COLA, however, is based on a different CPI series, the Consumer Price Index for Urban Wage Earners and Clerical Workers, usually referred to as the CPI-W. Since December of 2000, the year-over-year average for CPI-W is fractionally higher than YoY CPI at 2.42%, which is 0.29% higher than the YoY average for Chained CPI.

Here is a snapshot that compares the cumulative effect of inflation with these three indexes:

Over time the proposed switch to the Chained CPI for Social Security COLAs will substantially lower the cost to government — and the size of payouts to recipients.

Note: See also my analysis of the hypothetical use of Chained CPI for Social Security cost-of-living adjustments (COLAs) over the past twelve years:

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