Inflation is an increase in the general level of prices for goods and services. When prices rise, a unit of money buys less. The inflation rate measures the change in a specified price index over a stated period.
Not every price must rise, and households can experience different changes because their spending differs. A single product’s price increase is not the same as economy-wide inflation.
How is an inflation rate calculated?
The US Bureau of Labor Statistics explains CPI as a weighted measure of consumer price change. Price indexes combine categories using spending weights and statistical methods. They are not simply all prices added together or multiplied together.
If an index rises from 100 to 103 over a year, annual inflation is (103 ÷ 100 − 1) × 100 = 3%. A monthly rate compares different dates and should not be mistaken for the annual rate.
Lower inflation does not mean lower prices
Suppose our fictional index rises from 100 to 110 in year one, an increase of 10%. If inflation slows to 5% in year two, the index reaches 115.5. Prices are still rising, just more slowly.
Disinflation means a reduction in the inflation rate. Deflation means a fall in the general price level. Both concern broad measures rather than the price of one item.
CPI, CPIH and RPI are not interchangeable
In the UK, CPIH extends the Consumer Prices Index, or CPI, to include owner-occupiers’ housing costs and Council Tax. The ONS describes the Retail Prices Index, or RPI, as a legacy measure that is not an accredited official statistic.
The indexes differ in coverage and calculation. UK CPI includes rent and some other housing-related costs; it does not exclude every housing cost. In the US, CPI includes rent and an owners’ equivalent rent measure for owner-occupied shelter.
Owners’ equivalent rent estimates the rental value of housing services. It is not a direct measurement of house purchase prices. Index names and housing treatment must therefore be identified by country.
What causes inflation?
The Reserve Bank of Australia describes demand pressures, higher production costs and inflation expectations. Supply disruptions, spending conditions and policy can interact. A simple comparison of money growth with GDP growth does not mechanically determine each period’s inflation.
Stagflation combines inflation with weak economic activity and high unemployment. Hyperinflation is an extreme episode; the Cleveland Fed describes a common threshold as more than 50% per month.
Why do central-bank targets specify an index?
The Federal Reserve’s longer-run 2% objective uses the PCE price index, covering personal consumption expenditures. The Bank of England’s 2% target uses UK CPI. A shared percentage does not make the measures identical.
Inflation also affects real wages, purchasing power and contracts that contain specific indexation provisions. The effect depends on the price measure, timing and terms, rather than every wage or pension automatically rising with one index.
Last checked and updated on November 3, 2026 by the MBN editorial team.