Inflation is here, and unless you managed a business the last time things looked like this—in 1982, BTW—you’re not used to planning for it. In fact, inflation averaged only 1.7% in the 10 years before 2020.
Clearly, business leaders are worried. For them, this means tracking external inflation metrics is now a priority, so they can make sure the company adjusts appropriately to swings in the price of goods and services.
Let’s break down the main measures the federal government uses to track the inflation rate—and dig into other supplemental indicators that can help you predict trends and guide your decisions.
Consumer Price Index
The crowd favorite for tracking inflation is the Consumer Price Index (CPI), published monthly by the Bureau of Labor Statistics (BLS). The CPI, which measures the average change in prices paid for consumer goods and services, shows us how inflation affects consumers’ day-to-day living expenses, such as groceries, rent, clothing, and gas, to name just a few.
Listen, nobody’s perfect
Not even the CPI. The standard version of the CPI might be the most all-encompassing measurement, but it still isn’t reflective of the *entire population* because it’s based on urban consumers.
It also fails to reflect substitution bias, the phenomenon where price changes drive changes in consumer buying behavior.
Plus, the CPI is a little behind the game. It takes time to account for new innovations, so even if a newer product represents a considerable portion of consumer expenditures, it could be years before it’s included in this economic indicator.
Personal Consumption Expenditures Price Index
Another fan-fave indicator of inflation? The Personal Consumption Expenditures Price Index (PCEPI), aka the PCE Price Index. It serves as a measure of the prices that people living in the US (or those buying on their behalf) pay for goods and services. The PCEPI is the Fed’s personal go-to for measuring inflation and setting monetary policy.
Producer Price Index
Released monthly by the BLS, the Producer Price Index (PPI) measures the average change in prices that domestic producers receive for goods and services. It’s not like other indicators: The PPI gauges inflation from the viewpoint of the industries that make the products, instead of from the consumers who buy them.
Unlike the CPI or the PCEPI, both of which are lagging indicators, the PPI is a *leading* indicator of inflation—making it everyone’s BFF for scenario planning. The BLS knows you love (and need) it, so it gets very granular in its calculations to provide business analysts with data specific to their industries and needs.
The Employment Cost Index
So far, we’ve discussed measures of goods and services, as well as the pricing of both finished goods and the materials that go into them, as lagging and leading indicators of inflation. The cost of labor for the sampled goods and services is, obviously, baked into the prices discovered in creating the indexes.
But as every biz leader knows, the effects of labor costs on prices charged is not an efficient factor to analyze. Most businesses do their best to absorb some labor costs, such as by paying more to fill certain roles instead of raising prices.
That makes the BLS’s Employment Cost Index (ECI) a very good leading indicator of inflation pressure, especially now that the available workforce isn’t meeting the demand for workers (we see you, Great Resignation). The BLS provides a detailed explanation of the ECI, including its methodology and scope. The index is formulated to look well beyond workers’ hourly rates to consider benefits like healthcare, paid leave, retirement savings, severance, stock plans, and much, much more.
The Fed also creates measures that exceed the BLS’s average hourly earnings metrics with its own indicator, called common wage inflation (CWI).
CWI shows lower quarter-to-quarter variability and tends to measure wage inflation to be a bit higher compared with other indexes. CWI is truly a macroeconomic indicator designed for policymakers—making it a good index for business leaders to also watch, although probably not as useful as the ECI (which shows quarterly fluctuations pertinent to business planning).
The bottom line
Unfortunately, this bout of inflation looks like it’ll stick around for a while. But by tracking the right indicators, businesses can take strategic action to battle its effects. The best CFOs know which indicators to track—and can create action plans based on those indicators.