GDP and Inflation

Consumers Price Index (CPI): Changing with the times

Thursday November 06, 2014 Hugh Dixon

Statistics New Zealand (Statistics NZ) recently announced the results of its 2014 review of the Consumers Price Index (CPI). Statistics NZ undertakes a review of the CPI every three years in order to ensure that the CPI basket of goods and services accurately reflects the main items and services New Zealanders buy. This way Statistics NZ can accurately calculate price changes each quarter.

 

As a result of its 2014 review Statistics NZ is making changes to three aspects of the CPI, the first is changes to the items being priced, the second is changes to the expenditure weights used to weight the price movements of each item, and the third is changes in the regions that Statistics NZ gathers their price information from.

 

With the CPI being the official measure of inflation in New Zealand and used by the Reserve Bank as part of its Official Cash Rate (OCR) decisions, the CPI is an important indicator. So why have Statistics NZ made these changes and what impact will they have on the CPI?

 

Changes to items being priced:

 

15 new items have been added to CPI, while 12 items have been removed. But while 3 more items have been added to the CPI than removed, the total number of items being priced by Statistics NZ fell from 710 to 709 items. This is because of changes being made to items retained in the CPI basket, for example three items previously were priced to capture the price changes in energy drinks, after the 2014 review only two items will be priced to capture this price change in energy drinks. Therefore due to these changes the overall number of items being priced by Statistics NZ has fallen by one.

 

The 15 new items being added to the CPI can be broken into 5 broad categories:

  • Food and Beverages (Packaged leaf salad, Frozen prawns, breakfast food drinks, and Cider)
  • Clothing (Women’s casual dress)
  • Housing (Silicone sealents, Plywood, Spades, and Property valuation for insurance purposes)
  • Transport (Urban ferry services)
  • Pets (Kittens, Cat adoption, Dog adoption, and Dog licences)

 

While the 12 items being removed from the CPI also cover 5 broad categories:

  • While the 12 items being removed from the CPI also cover 5 broad categories:
  • Clothing (Mens tracksuit trousers)
  • Housing (Particle board and burger alarms)
  • Transport (Car alarms, and car stereos)
  • Household items (indoor plants, video cameras, e-book readers, recordable DVD discs and hire of video games)
  • Sport (Tennis racquets and squash club membership)

 

Changes to items included in the CPI basket represent the changing pattern of consumer spending that has occurred over the last three years since the previous CPI review in 2011. The changes to the CPI basket show changes in technology that has occurred with video camera, e-book readers , recordable DVD discs and the hire of video games dropping out of the basket, as consumers now use smart phones instead of video camera and e-readers, and USB sticks instead of recordable DVD discs.

 

These changes to the CPI basket have been undertaken by Statistics NZ as they are needed to keep the CPI a relevant measure of the price changes NZ consumers are facing, failing to regularly update the items and services included in the CPI basket will see the CPI become irrelevant as advances in technology and policies see items and services become obsolete and new items and services become main items of expenditure.

 

These new items added to the CPI baskets are highly unlikely to cause significant fluctuations within the basket going forward as the items are not items that are subject to rapid and significant price changes that could cause the CPI to move unpredictably or unduly.

 

Changes made to expenditure weights:

 

Two main changes have been made to the CPI weighting system as a result of the 2014 CPI review. The first change is in the share of expenditure weights that have been assigned to each of the major CPI groups. The second change is the expanded use of expenditure weights to determine each regions weight, replacing previously used population weights.

 

With the first change each of the eleven major groups within the CPI have their weights recalculated every three years. This is done to ensure that the overall price movements coming out of each group are appropriately weighted when determining the overall price movement for the quarter. With each group’s weights changing, it changes the influence each group has on the overall mmovement of the CPI.

 

For example if 20 percent of all expenditure by New Zealand consumers is on food, then changes in food prices should make up 20 percent of the overall movement in the CPI. It would be illogical to have food in this case represent either 5 percent of the overall movement or 50 percent of the overall movement.

 

The following major CPI groups have had an increase in their weight:

  • Food
  • Alcoholic beverages and tobacco
  • Housing and household utilities
  • Household contents and services
  • Communications
  • Recreation and culture
  • Education
  • Miscellaneous goods and services

 

The following major CPI groups have had a decrease in their weight:

  • Clothing and footwear
  • Health
  • Transport

 

It is important to note that these weights come from expenditure totals for each group and that the total expenditure weights for all the major groups will always equal 100, so when one group has an increase in weight, another group must have had a decrease in weight. Housing and household utilities previously had a weight of 23.55, meaning that 23.55 percent of total expenditure in New Zealand went of items in this group, while now its weight has increased to 24.23.

 

As result of these expenditure weight changes, groups that have had an increase in weight have a stronger influence then previously on the overall movement of the CPI, while those which have had a decrease have a weaker influence. For example a 5 percent increase in prices within the transport group will have a smaller impact on the overall price change than previously, while a 5 percent price drop in food prices will have a greater impact than previously.

 

The second change made to the weights applied to CPI item price changes is regional weights. Prices are gathered from 12 towns and cities around New Zealand. Each of these 12 towns and cities are provided a weight, which represents the importance of the prices changes in each town and city.

 

Previously the CPI used population weights to determine the weight given to each town and city. For example prices collected in Auckland would have a weight of 33.37, representing that Auckland had 33.37 percent of the population of New Zealand.

 

From now on the CPI will use expenditure weights instead of population weights. This change has come about due to improvements in the collection of the Household Expenditure Survey (HES) mand the availability of other sources of data which combined allow for more accurate calculation of regional expenditure. This means for Auckland its weight will increase to 34.87, because 34.87 percent of total expenditure within New Zealand is spent by people living in Auckland.

 

These changes made to the CPI weights means that a higher percentage of New Zealanders expenditure is going on housing along with the contents and services for the household, as well as food and beverages. At the same time we are spending less on our health, clothing and transportation. This means that in the future changes in price in the housing and food areas will have a greater influence on the CPI and overall inflation in New Zealand, than previously.

 

At the same time with the changes from population to expenditure weights for the pricing centres means that price changes in Auckland will be of much greater importance than those seen in Invercargill.

 

Changes made to regional pricing areas:

 

The CPI will no longer collect prices of items from Timaru, Rotorua and Wanganui. This will reduce the total number of pricing areas from 15 to 12. A reduction in the number of pricing areas will reduce the cost for Statistics NZ in collecting pricing information. This cost-cutting measure will allow Statistics NZ to fund new price indexes.

 

These new prices indexes will be household-living cost price indexes for population subgroups (beneficiaries, income quartiles, Māori, and superannuitants), and a seasonally-adjusted analytical CPI.

 

The areas of Rotorua, Timaru and Wanganui represent around four percent of New Zealand’s population and likely a similar proportion of overall expenditure. Dropping these three areas does allow for saving to be made and new price indexes to be created that could be useful for analysis purposes.

 

With dropping these three pricing areas it does mean that less price measurements are collected for each item, and therefore overall price changes are calculated from a smaller number of price measurements.

 

Conclusion:

 

Statistics NZ have made three major changes to the CPI based on the 2014 review of the indicator. Statistics NZ have made changes to the items being collected, the expenditure weights applied to the prices gathered and where they gather the prices. Statistics NZ have undertaken these changes to ensure the items collected and the expenditure weights applied to them represent the latest New Zealand consumer spending patterns.

 

To ensure that the CPI measures accurately the overall price changes faced by the majority of New Zealanders, Statistics NZ needs to ensure they are pricing what we are spending our money on.

 

Statistics NZ has used the HES survey to determine the amount of total New Zealand expenditure that goes into each of the major item groups within the CPI to reflect what areas of spending New Zealanders are spending more or less on. Statistics NZ have also replaced they use of population weights with expenditure weights to more accurately reflect the amount of expenditure that takes place in each of the New Zealand’s regions. As a result of this Auckland has seen its weight increase from 33.37 to 34.87, this means that prices gathered from Auckland will have a greater influence of the CPI then prices gathered from lower weighted regions.

 

Lastly Statistics NZ have reduced the number of pricing centres they gather prices from, from 15 down to 12 in order to fill the savings needed to fund the introduction of new analytical CPI series, covering seasonal adjusted CPI, and household living cost price indices.

 

Overall all of these changes will improve the accuracy of the CPI with a better representative basket of goods and services and more accurate weights being applied to the price changes.

 

One thing with all these changes to be mindful of is that they do mean that major centres such as Auckland will now have a larger influence on price movements then they did in the previous CPI’s.