Thursday, September 4, 2008

Food Prices, Households, and "Core Inflation"

The most recent issue of the Chicago Fed Letter features an article on Food Inflation and the Consumption Patterns of U.S. Households by Leslie McGranahan. Leslie helped out in a number of economic education programs when I was at the Chicago Fed, and her insights were always helpful, whether it was as a Fed Challenge judge or a presenter at a teacher workshop.

Her article examines food prices increases over the past year, examines reasons for these increases, and relates them to food consumption patterns. Related to the last point, she finds that food price inflation has hit lower-income households harder than it has hit households in higher income brackets. McGranahan indicates that this is because lower-income households spend a larger percentage of their budget on food. What is purchased (in-home vs. out-of-home or restaurant) is also a consideration because low-income households spend a greater portion of their food budget on food prepared in home vs. food consumed in a restaurant. There is no surprise here although I recommend the article to teachers who of personal finance and economics who are looking for relevant and recent data for use in the classroom.

However, the article got me thinking along other lines. Currently, we hear and read a great deal about inflationary pressures. Depending on which measure you choose to use, consumer price index (CPI) or personal consumption expenditures (PCE), you get different numbers. But there is also a discrepancy between the overall numbers and the core inflation numbers. Core refers to the practice of "stripping out" food and energy prices. Critics of those measures state that it doesn't make sense not to count those prices because consumers have to buy food and energy. And they're right. If you're trying to measure the impact on the household, core inflation presents an incomplete picture - and incomplete in some very significant ways.

However, the purpose of the core numbers is to understand to what extent intermediate prices, such as wages, are creeping into other consumer prices. It is reasonable to assume that increased food and energy costs impact household budgets, and that this is reflected in increased wage demands, at some point. Those wages, as well as increased energy costs, can show up in the price of consumer goods and services in subsequent months. Essentially, by measuring the core, policy-makers can see to what extent those volatile sectors of food and energy costs are being passed through in a longer trend. This provides important information, without necessarily reflecting what's happening in households, especially those households at the lower end of the income distribution.

I welcome your thoughts.

1 comment:

Mike Fladlien said...

The Fed data confirms what my research has found--food is income inelastic. If you look at your own consumption, when your income goes up do you eat more? This means that the upper quintile spends a relatively smaller portion on food. This comment was meant, i think, for self-intuition.