Why Economists Ignore Gas And Food Prices When Doing The Math For “Cost Of Living”

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Yesterday's Consumer Price Index showed a year-over-over increase of 3.5 percent in the Cost of Living.  Markets, however, are rejoicing over the "core" inflation rate of 2.2 percent, saying it's tolerable.

So what is "core CPI", you want to know. 

Well, core CPI is just like "regular" CPI except that it specifically excludes the prices of energy and food products because their respective prices can change so rapidly.

Volatilility distorts trends and charts, so when looking at CPI, economists tend to focus on more stable costs in life such as medical care, education, and apparel -- the "core" of living, so to speak.  Overall CPI makes for lots of zig-zags like in the chart at right.

The downside of only watching core CPI is that it's a fair system for looking at long-term trends, but in real life, the long-term is just a series of short-term stacked back-to-back.  Overall CPI does a much better job of reporting the true cost of living on a day-to-day basis.

And, as October's CPI report showed, the cost of living was higher last month in relative terms than it had been in the past year.  And this comes at a time when the U.S. economy could really use a boost.

With more dollars spent on essential items each month, Americans have fewer dollars available for savings and/or discretionary spending. 

If the pressures continues, we could see the beginnings of stagflation -- when everyday costs rapidly move higher while the economy rapidly slows down.  This would weaken the dollar, of course, and be terrible for mortgage rates.