How inflation is calculated - does one very bad month affect inflation for the next 11 months?

Ron246235

Sorry if this is the wrong forum for this question - it is the best one I could find. 

All the pages below say that inflation is calculated as the price of certain items now, minus the price a year ago, multiplied by 100. But if prices go up massively one month, this would mean that it is literally impossible for inflation to go down to a low level for the next 11 months (unless we have deflation) - is this right?

Suppose every month prices go up by 0.1%, except that in March they go up by 10%. Then inflation (calculated as above) will be 11.2% at the end of March*. And it will also be 11.2% at the end of every month till February the next year. This doesn't seem right, as actually prices were very stable from April onwards.

It seems to me that if inflation is reported once a month, it should be calculated by scaling the monthly increase up to a year and taking account of seasonal patterns. 

https://www.bbc.co.uk/news/articles/cjrrk8j7pwxo

https://www.bankofengland.co.uk/monetary-policy/inflation

https://forums.moneysavingexpert.com/discussion/2626579/how-to-calculate-inflation-rate-between-2-dates

* Calculation: 1.001 ^ 11 * 1.1 = 1.112

Moonwolf

If I pay £100 for stuff I need and then one month it goes up to £110 because energy prices go up, then I am paying 10% more.  If inflation then goes up 10p a month for the next 10 months and after a full year I am paying £111 for the stuff I need, inflation is 11%.  The fact it only went up £1 over the recent months doesn't change my experience, which is what inflation measures. 

Or have I misunderstood what you are saying?

Moonwolf

Also, your method exaggerates individual monthly changes.  For example, the low inflation this month might in part be due to bad weather.  If we have a warm rest of the month, and England does well in the Euros, perhaps people will spend and this might increase inflation (or reduce it depending on the competition for that spend).

hugheskevi

The principle is correct.

At the moment, CPI inflation is 2% over the last 12 months. But that is largely because there was almost no inflation between May 2023 and January 2024. Since January 2024 prices have increased by 1.8%, so well above an annualised 2% increase.

Yet all we are going to hear about for the next few weeks is speculation low inflation will lead to interest rate cuts, and how the govt's economic plan to bring down inflation is working. This is despite prices now having to remain almost unchanged until January 2024 if annual inflation is going to remain at 2% (ie rising annualised inflation is extremely probable in the coming months).

But looking on a month-to-month basis would exaggerate any volatility in the figures, so it is necessary to take account of both short-term changes and longer term trends.

CPI index numbers

2023 MAY	131.3
2023 JUN	131.5
2023 JUL	130.9
2023 AUG	131.3
2023 SEP	132.0
2023 OCT	132.0
2023 NOV	131.7
2023 DEC	132.2
2024 JAN	131.5
2024 FEB	132.3
2024 MAR	133.0
2024 APR	133.5
2024 MAY	133.9

Ron246235

@Moonwolf
Yes, that is your experience if you compare to one year ago. But your experience if you compare to one month ago is also meaningful. I assume you would be less stressed or worried about inflation in the months when prices only went up by 10p / 0.1%. But inflation would tell you that you ought to be just as worried then as in the month when they went up by £10 / 10%. 

In my example I am just saying is that if prices were very stable from April onwards, it doesn't make sense that inflation in September is still 11.2%. 

I see what you are saying about monthly changes. With my method, inflation would go up and down quite a lot. Even if it accounted for average seasonal patterns, there might be big random changes in the occasional month. 

MattMattMattUK

Ron246235 said:

@Moonwolf
Yes, that is your experience if you compare to one year ago. But your experience if you compare to one month ago is also meaningful. I assume you would be less stressed or worried about inflation in the months when prices only went up by 10p / 0.1%. But inflation would tell you that you ought to be just as worried then as in the month when they went up by £10 / 10%. 

In my example I am just saying is that if prices were very stable from April onwards, it doesn't make sense that inflation in September is still 11.2%. 

I see what you are saying about monthly changes. With my method, inflation would go up and down quite a lot. Even if it accounted for average seasonal patterns, there might be big random changes in the occasional month. 

It would not be inflation in September of 11.2%, it would be annualised inflation to September was 11.2%, the monthly inflation would be different. 

Inflation is almost always accounted for on an annualised basis as monthly fluctuations can make things different from where they really are, 1% monthly inflation does not sound too bad to some people until one considers that is approximately 12% over a year.

Linton

Yes there is major confusion especially in the press and political comment about the “headline” inflation value. A change in annual inflation depends as much on what happened a year ago as what happened n the previous month.

Pat38493

hugheskevi said:

The principle is correct.

At the moment, CPI inflation is 2% over the last 12 months. But that is largely because there was almost no inflation between May 2023 and January 2024. Since January 2024 prices have increased by 1.8%, so well above an annualised 2% increase.

Yet all we are going to hear about for the next few weeks is speculation low inflation will lead to interest rate cuts, and how the govt's economic plan to bring down inflation is working. This is despite prices now having to remain almost unchanged until January 2024 if annual inflation is going to remain at 2% (ie rising annualised inflation is extremely probable in the coming months).

But looking on a month-to-month basis would exaggerate any volatility in the figures, so it is necessary to take account of both short-term changes and longer term trends.

CPI index numbers

2023 MAY	131.3
2023 JUN	131.5
2023 JUL	130.9
2023 AUG	131.3
2023 SEP	132.0
2023 OCT	132.0
2023 NOV	131.7
2023 DEC	132.2
2024 JAN	131.5
2024 FEB	132.3
2024 MAR	133.0
2024 APR	133.5
2024 MAY	133.9

I have never once heard any UK journalist discuss these points or mention for example that most of the inflation in the current annual number actually happened in the last 5 months.  Surely this is what the BOE considers when they make their decisions.

Strummer22

I haven't been closely watching inflation numbers for very long, but I wonder if there is a typical annual cycle in monthly inflation. I would have thought that most business (particularly those providing services) only put their prices up once a year, and most people only get pay rises once a year, and that these tend to be in the January to April period. Do month-on-month inflation numbers tend to be higher in the first half of the year compared to the second half as a result? 

Linton

Strummer22 said:

I haven't been closely watching inflation numbers for very long, but I wonder if there is a typical annual cycle in monthly inflation. I would have thought that most business (particularly those providing services) only put their prices up once a year, and most people only get pay rises once a year, and that these tend to be in the January to April period. Do month-on-month inflation numbers tend to be higher in the first half of the year compared to the second half as a result? 

Monthly inflation figures can vary a lot over a year. For example due to events at the end of Covid. The actually annual figures mainly seem to be used to attack or support the government each month, a purpose for which they are totally meaningless.

Ron246235

These answers are really helpful. It looks like I was right - the figure that is reported is misleading as it depends on what happened in the whole of the last year. But scaling up the inflation that happened within the last month would also be problematic as there is a lot of volatility. 

I have never seen a journalist talk about this issue either. I suppose they want to avoid confusing people, so they just say "this is how inflation is measured". To be fair to the journalists, some of the general public think that if inflation goes down then that means prices are decreasing - so perhaps they are just trying to avoid that even worse misunderstanding. 

The answer from @hugheskevi is interesting. Prices rose by 1.8% from January to May, so there will have to be almost zero inflation for the rest of the year - almost impossible - if annualised inflation is to stay at 2%. It would be good if everyone could understand that.