How does the government measure inflation?

My comment, "A question came up on what was CPI and PCE, is and does it affect the tax paying citizen. The short answer is "Yes"' - It does have ramifications on our pocketbook. An explanation follows:

## EXECUTIVE SUMMARY

The Federal Reserve (the Fed) measures inflation primarily through the Consumer Price Index (CPI) and the Personal Consumption Expenditures (PCE) price index, each serving different purposes and populations.

## Consumer Price Index (CPI)

The CPI, calculated by the Bureau of Labor Statistics (BLS), measures the average change over time in the prices paid by urban consumers for a fixed basket of goods and services. This basket includes approximately 80,000 items such as food, housing, clothing, transportation, and medical care, reflecting the spending habits of urban households, which represent about 93% of the U.S. population[1][2].

### Key Functions of CPI

- **Inflation Measurement**: The CPI serves as a primary indicator of inflation, showing how prices change over time for consumers.

- **Cost-of-Living Adjustments**: It is used to adjust Social Security benefits and other federal payments to account for inflation, ensuring that these payments maintain their purchasing power[2][4].

- **Economic Policy Tool**: The Fed uses CPI data to guide monetary policy decisions. For instance, if inflation rises above its target rate of 2%, the Fed may adjust interest rates to stabilize prices[2][6].

## Personal Consumption Expenditures (PCE) Price Index

While the CPI is widely recognized, the Fed prefers the PCE price index for its monetary policy decisions because it provides a broader measure of inflation. The PCE includes all consumption expenditures by households and nonprofit institutions, thus capturing a wider range of goods and services than the CPI[3][5].

### Differences from CPI

- **Broader Coverage**: The PCE accounts for changes in consumer behavior and includes spending made on behalf of consumers (such as healthcare costs covered by insurance), which can lead to different inflation readings compared to the CPI[1][5].

- **Core PCE**: The Fed particularly focuses on core PCE inflation, which excludes volatile items like food and energy. This measure is considered more stable and reliable for assessing long-term inflation trends[6][7].

In summary, while both CPI and PCE are crucial for measuring inflation, the Fed relies more heavily on the PCE price index for its economic policy decisions due to its broader scope and adaptability to changing consumer behaviors.

Citations:
[1] https://www.brookings.edu/articles/how-does-the-government-measure-inflation/
[2] https://www.investopedia.com/terms/c/consumerpriceindex.asp
[3] https://www.clevelandfed.org/center-for-inflation-research/consumer-price-data
[4] https://www.stlouisfed.org/publications/regional-economist/july-2013/cpi-vs-pce-inflation--choosing-a-standard-measure
[5] https://www.invesco.com/us/en/insights/what-is-inflation-fed-measure.html
[6] https://www.federalreserve.gov/faqs/economy_14419.htm
[7] https://webapps.dol.gov/dolfaq/go-dol-faq.asp?faqid=94&subtopicid=116&topicid=6
[8] https://www.bls.gov/cpi/