Principles of Macroeconomics / Unit 6 MAC 0511 worked example, 60 to 90 seconds
Which Index Fits?
The idea
Match the index to the question. If the question is what a household's cost of living did, use the consumer price index, because it prices only what households buy. If it is what happened to the prices of everything the country produced, use the GDP deflator, which covers all of output including investment goods and government purchases but excludes imports. If it is whether a price movement will persist, use core inflation. If it is what is happening upstream of retail, use producer prices. There is no single best index; the right one depends on the use.
In practice
Worked example: a pensioner asking whether their income keeps pace wants the consumer price index. A central banker deciding whether a fuel spike needs a response wants core. A statistician comparing this year's output with last year's wants the deflator. A manufacturer forecasting next quarter's costs wants producer prices. Four questions, four indices, one economy.
Where people slip
The indices disagree, sometimes by a full point, and none is wrong. Imported goods are in the consumer index and out of the deflator, so a falling import price pulls them apart.
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