Inflation is one of the most pressing political and economic issues of the moment, but there are many misconceptions about how inflation is measured, where it comes from and how it impacts the average person.
In June, inflation in Canada reached a . While there are , many Canadians have dealt with the surging cost of living by , .
As an economics professor who conducts research on prices and consumption, I would like to provide some insight into how inflation is measured and how it is impacting Canadians and the economy at large.
What is inflation?
Inflation refers to a general increase in prices and the resulting decline in the purchasing power of money. While most of us can sense whether inflation is high or low from everyday purchases, is a specific measure created by a small army of statisticians and data collectors.
used to track inflation through a two-step process. In the first step, Statistics Canada collects over one million price quotes on virtually anything purchasable in the country.
Prices are recorded in a variety of ways, and the frequency and geography of price collection depends on the item. For example, items with prices that change quickly like food or gasoline, or vary across locations like rent, are collected more frequently than items that are collected once a year, like university tuition or insurance rates.
In the second step, Statistics Canada aggregates these prices to generate the all-item Consumer Price Index by weighing each item’s price change by its share of total consumer spending. These weights are occasionally updated to .
The most recent update in 2021 reflects some pandemic-related spending changes, such as a lower weight for food (15.75 per cent) and transportation (16.16 per cent), but a higher weight for shelter (29.67 per cent).
Statistics Canada and the Bank of Canada also measure “” which removes items with the most volatile prices (food and energy) from the CPI to provide a better sense of slower-moving, long-term cost pressures.
What causes inflation?
Prices are determined by . High inflation is a sign that, across the economy, demand for goods and services exceeds their supply.
Demand has been strong due to , , and .
Supply has been disrupted by the pandemic’s effects on , , , and the Russian invasion of Ukraine that around the world.
Inflation feels higher than it is
Many Canadians in the last year. Beyond , there are at least two reasons for this.
First, consumer spending is measured through surveys that capture the diversity of spending patterns in the population, but collapse this diversity into a single set of weights that treats each dollar of spending equally. with age, income, location, household composition and taste, and your personal budget might bear little resemblance to the weights used for the CPI.
Second, we are more likely to , and we . The items with the highest price increases in the last year — energy and food — have these characteristics, and we are less likely to notice the (lower) inflation rate for furniture, electronics, education and health goods that balance these out.
We also pay a lot of attention to soaring house prices and interest rates — especially in big cities — but the is based on historical averages of housing prices (25 years) and interest rates (five years) that reflect long-term financing costs for the average homeowner, not someone buying a house today.
How does inflation impact us?
There are when it comes to inflation. While it can hurt businesses that , it can by allowing them to without customer backlash because “everyone else is doing it.”
High inflation is . Individuals who earn no or below-inflation wages are hurt, while individuals with wages indexed to inflation or can benefit. Individuals like seniors on fixed incomes are often hurt by inflation, although many .
Some asset prices are better at keeping pace with inflation. Prices of housing, stocks, art and precious metals may go up, while assets with fixed dollar values like cash and bonds do not.
Inflation can make it easier to repay debts, as long as wages or other asset prices keep pace. Inflation relative to the dollar value of the debt.
While the source of our current inflation is irrelevant to consumers, it matters for economic policy. Central banks and governments must decide whether to curb demand and risk recession , cutting spending or raising taxes, or wait and hope that supply-side inflation pressures ease up on their own.
We can only hope that it will not take a major recession to end this period of high inflation (unlike the ) and that Canada avoids “,” the combination of high inflation and high unemployment that afflicted many economies in the late 1970s.
Nicholas Li ne travaille pas, ne conseille pas, ne possède pas de parts, ne reçoit pas de fonds d'une organisation qui pourrait tirer profit de cet article, et n'a déclaré aucune autre affiliation que son organisme de recherche.
