Consumer Price Index and Colas - Issues In Constructing An Appropriate Index

The CPI is the aggregate, representative measure of price change as experienced by households. In order to compute the index, one needs to know who buys, where they buy, what they buy, what an item costs (for example, the price of a loaf of bread is $1.00), and what in total is spent for an item (for example, $5.00 is spent for five loaves of bread purchased by the consumer). Statistical samples of household expenditures, prices, and area populations for urban areas provide the inputs for the calculation. Information is collected from a sample of urban households or consumer units to determine their expenditure patterns by using the consumer expenditure survey. Information on prices is collected from a sample of outlets and products based on their likelihood of being patronized and purchased, respectively. The overall CPI is then constructed in two stages by taking a weighted average of household information. At the first stage, prices within CPI item categories are averaged (using appropriate statistical techniques) to form basic item indexes. At the second stage, these indexes are averaged together.