If you're seeing this message, it means we're having trouble loading external resources on our website.

If you're behind a web filter, please make sure that the domains *.kastatic.org and *.kasandbox.org are unblocked.

Main content
Current time:0:00Total duration:3:30

Video transcript

inflation and when most people talk about inflation they're talking about price inflation and that's just the general increase in the level of prices for goods and services and you probably have a sense of that that every year in kind of a normal economy things seem to get a little bit more expensive although not everything does but especially if you look at something like healthcare or the cost of education you definitely see things getting more expensive every year but one interesting question is how do you measure it how do you measure inflation and what the Bureau of Labor Statistics does and this is actually the most used measure of inflation they create something called a Consumer Price Index and the way they do it is that they define a basket of goods and actually a basket of goods and services so what they do is they go and they look at the average urban consumer and they say what do they need in their life they might need some housing they might need some fuel some natural gas for their home they need gasoline for their cars they need energy in other ways they might need some type of services they might need transportation and they try to write ooh come up with a basket of all of the things that the average consumer in an urban environment might need and they figure out how much that would cost them in year 1 and let's say that in year one that it costs them $100 the actual basket of the CPI constructs would not cost a hundred dollars but I'm going to do this for the sake of simplicity and they'll wait these based on how much what percentage they think people spend on housing versus fuel versus services versus transportation then they'll look at the same basket each year after that so then they'll do the same things housing fuels services transportation and then this would be in year two now and year two and let's say that same basket costs one hundred one hundred and two dollars well then they'll say that the general level of price and services for this consumer went up by two dollars or went up by the more important thing is by the percentage by two percent so based on this measure based on this basket of goods prices went up by two percent or you'll hear people on the news say that the inflation rate went up by two percent now I want to clarify when inflation sometimes talks to inflation in the money supply so people talk about there's just more money being printed and often an increase in the money supply is usually one of the factors that is driving price inflation but when most people talk about inflation today they're talking about price inflation they're talking about the increase in prices they're not directly talking about the increase in the money supply now this seems like a pretty simple thing to do but it's not as simple as you might first think because think about something like TV sets or especially anything this technological do you look at the same TV set that's getting probably cheaper every year or do you look at the average TV set that the American household is having do you look at the same computer that's getting significantly cheaper every year or do you look at the average computer every year because then you'd actually be looking at a different product so there's actually a lot of things to think about a lot of things how you could weight this and there's been a lot of controversy and and and when the waiting's change it in different periods of time but this is the general idea and it's really just the best attempt to figure out on average how much more expensive or how much purchasing power are we losing from one year to the next