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The biggest driver of inflation is a price that no one really pays


The most widely watched measure of inflation is driven by a measure of housing costs that nobody actually pays.

The consumer price index, the most-watched measure of the cost of living, rose 6 percent in the year to February, down from 6.4 percent in January, the Bureau of Labor Statistics said Tuesday. The monthly price increase of 0.4%, up from 0.5% in January, is a sign that inflation, while easing, is still squeezing household budgets.

Almost three-quarters of the monthly increase – about 70% – came from housing costs, and specifically from a measure called Owners’ Equivalent Rent (OER), which rose a record 8% over the year.

The OER is the largest component of the CPI, accounting for a quarter of its total value. The overall CPI measures most things a typical household pays for, from groceries to gas to movie tickets and college tuition. Because the “basket” of measured prices is meant to be proportional to the costs people actually pay, housing costs loom large in the calculations.

For most goods and services, the process of recording prices is relatively simple: The bureau sends someone to a store or calls a business to see what they charge for a bag of rice or sends a plumber to fix a broken faucet. Recording housing prices is not so easy. The bureau measures actual rental prices for houses and, using that data, estimates what owner-occupied homes would rent if they were put on the market.

“It’s a bit of a fuzzy metric,” said Ryan Sweet, chief U.S. economist at Oxford Economics.

OER is actually the rent a homeowner forgoes by living in their house instead of renting it out. It is influenced by housing prices, but not directly related to them.

“When home prices are going up, I’m going to rent my house at a higher price than if home prices are going down,” Sweet said.

As a result of its methodology, the all-important measure of OER tends to lag national house price movements by about a year. It took a long time for the pandemic-era surge in home prices to show up in the CPI, and it will likely take a long time for the recent cooling of the housing market to show up as well.

“As home prices have declined modestly nationally, we should see that component begin to decline,” Sweet said.

Housing costs play a smaller role in the measure of inflation favored by Federal Reserve officials. The Personal Consumer Expenditure Inflation Rate, created by the Bureau of Economic Analysis, is less affected by rents and housing prices (giving it about half the statistical weight of the CPI) and is the one the Fed uses when deciding whether inflation is on track for the 2% annual target.

Joanna Swanson

Joanna Swanson is Europe correspondent at the Thomson Reuters Foundation based in Brussels covering politics, culture, business, climate change, society, economies and inclusive tech. With specific focus in breaking news, she has covered some of the world's most significant stories.