1. Session 12: Core inflation measurement methods
UNECE Workshop on Consumer Price Indices Istanbul, Turkey,10-13 October 2011
Session 12: Core inflation measurement methods
Presentation by Carsten Boldsen, UNECE

2. Overview What is core inflation Exclusion based methods
Trend estimates
Limited influence estimators
Conclusion

3. What is core inflation?
No general accepted definition of core inflation!
It is usually associated with the idea of an underlying or long-term inflation, which is not disturbed by seasonal, erratic or one-time price variations.
Normally used for inflation targeting by the monetary authorities
High credibility of the measure is required

4. t : inflation measured by the CPI t* : core inflation
What is core inflation?
t = t* + vt
t : inflation measured by the CPI
t* : core inflation
vt : temporary disturbances
All information about t * should be utilised; only the noise (vt) should be excluded
It is difficult to distinguish signals and noise
Elements with noise may have a different trend than average, so that exclusion will bias the core inflation indicator

5. Different methods
Exclusion based methods - Products - Indirect taxes - One-off shocks - Domestically generated inflation - Imputation methods
Trend estimates
Limited influence estimators - The weighted median - trimmed means

6. Exclusion based methods
Exclusion of products
Food and energy usually excluded
Products can be excluded in two ways:
Exclude always the same products
Exclude products which are the most volatile
Documentation of methods before publication is needed to ensure credibility

7. Exclusion based methods
Exclusion of indirect taxes
Exclude tax changes, or
Exclude all indirect taxes – calculate a net price index
One-off Schocks
Exclude extreme price changes caused by exogenous schocks
Domestically generated inflation
Exclude imported products

8. Exclusion based methods
Imputation methods
Exclude volatile products and impute their price change by products likely to experience similar price development
The idea is to keep the signal and exclude the noise

9. Trend estimates A commonly used multiplicative model is:
CPIt = Tt * St * It
Tt : Trend component
St : Seasonal component
It : Irregular component
The trend can be estimated by moving average, for example 24 months (but latest period is always missing)
The seasonal component can be estimated in regression models
Both trend and seasonal component included in most seasonal adjustment programs

10. Limited influence estimators
Weighted median
Calculate the weighted median, which is less responsive to extreme price changes. This is a simple and transparent method
Trimmed means:
Exclude specified upper and lower tails of the distribution of the 12-months price changes. For example, exclude 10% of the weights at the top and the bottom
In trimmed means indices large price changes are excluded, but smaller re-adjustments are included!

11. Some conclusions All methods have their advantages and disadvantages
Some methods may work well in some period of time, but not in others
The role of the SNO should be clear and communicated to the public
Methods and sources should be transparent and documented and made publicly available