What is the PCE and Why Does it Matter? 💵

The Bureau of Economic Analysis recently shared Personal Consumption Expenditures (PCE) Price Index data. The PCE is the Federal Reserve's preferred measure of inflation, generally cited within its rate-setting policy. This index helps gauge the price fluctuations of goods and services consumed by Americans. According to the latest figures, inflation for items increased by 3.3% on a year-over-year basis.

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Before the onset of higher inflation following the COVID-19 pandemic, measures of PCE generally remained around the Federal Reserve's 2% goal. The current year-on-year increase is much lower than the 2022 figures, but this increase could influence upcoming Fed Rate-setting policy.

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The PCE is currently elevated from its 40-year median increase of 2.2% year-over-year. However, the PCE has declined by more than 2% over the past six months. We see similar trends with the Consumer Price Index (CPI).

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Within a previous Plotify Insight, we focused on how the CPI can help gauge changes in consumer prices. However, while the PCE and the CPI are both crucial measures of inflation, they differ in several aspects:

1. Scope: While both measure inflation, the PCE is derived from business expenditures, capturing a broader scope of the economy than the CPI.

2. Weighting: The PCE is weighted by data from business surveys, deemed more accurate than the consumer surveys underpinning the CPI. The PCE also updates its weights more frequently than the CPI. For instance, the PCE currently weights housing costs less than the CPI weights these same costs.

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3. Flexibility: The PCE can adjust for shifts in consumer behavior, such as switching to substitute goods due to price variations, while the CPI is more rigid.

4. Usage: While the Federal Reserve harnesses the PCE as its primary tool for policy decisions - including those influencing housing finance rates - the CPI often plays a role in more consumer-focused adjustments, like Social Security payments.

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Both indices aim to capture inflation, but their methodologies and applications diverge, providing complementary perspectives on the economy's health - with different weighting of changes in housing costs.

Future Plotify Insights will continue exploring how macroeconomic and local-level conditions influence the housing market. Stay tuned for more updates.

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