How is the Consumer Price Index (CPI) calculated?

The Consumer Price Index (CPI) is a measure that examines the weighted average of prices of a basket of consumer goods and services, such as transportation, food, and medical care. It is calculated by comparing the current price of this consumer market basket to the price of the same basket during a designated base period.

Choosing the base period is essential as it serves as a reference point for measuring inflation or deflation over time. Essentially, the CPI reflects the cost of living for a typical household and tracks changes in prices to provide insight into economic conditions, allowing policymakers to gauge inflation rates and adjust measures accordingly.

The other options do not accurately represent the calculation method of the CPI. The first choice compares the current market basket's price to the previous year, which does not specifically reference the base period and lacks the foundational context required for CPI. The second option incorrectly correlates consumer prices to producer prices, which are measured separately and not used in CPI calculations. The fourth choice refers to average wages, which are unrelated to the CPI, as it focuses on prices rather than income levels.