Inflation refers to a sustained increase in the price of all goods and services in an economy. Rising prices affect people's incomes—and the quantities and kinds of goods and services they buy. Rising prices also affect the decisions made by producers. Price indexes measure the changes in price from one time period to another, such as year to year. These indexes use base years to make comparisons and express results as percentages. The Consumer Price Index (CPI) looks at changes in the price level of a household basket of goods from a buyer's viewpoint, while the Producer Price Index (PPI) is concerned with the prices paid by suppliers at different stages of production. The CPI and PPI both show trends in price levels. Prices in the United States have generally increased each year. However, there have also been periods of brief downturns when prices have decreased, which is known as deflation.

At A Glance

  • Inflation is an increase in the general price level for goods and services.
  • Deflation describes a sustained decrease in the general price level of commonly bought goods and services and is viewed as a serious problem, or an indicator of serious problems, in an economy.
  • Price indexes measure the change in prices of selected goods over time. They are often used to track inflation and gauge the strength of an economy.
  • The Consumer Price Index (CPI) is calculated by using the price change for each good and service in its market basket over a specific time period.
  • The Producer Price Index (PPI) measures the average change in selling prices from domestic producers for their goods and services.
  • The CPI may overstate inflation because of substitution, new product, and quality biases.
  • Inflation affects the price of goods and services, real income (money received through work and investments), and real interest rates (the cost of borrowing money).