DP1153 Measuring Core Inflation

Author(s): Danny Quah

Publication Date: March 1995

Keyword(s): Core Inflation , Dynamic Restrictions , Vector Autoregression

JEL(s): C3 , E3

Programme Areas: International Macroeconomics

Link to this Page: www.cepr.org/pubs/dps/DP1153.asp

In this paper we argue that measured (RPI) inflation is conceptually mismatched with core inflation: the difference is more than just `measurement error'. We propose a technique for measuring core inflation based on an explicit long-run economic hypothesis. Core inflation is defined as that component of measured inflation that has no (medium- to) long-run impact on real output - a notion that is consistent with the vertical long-run Phillips curve interpretation of the co-movements in inflation and output. We construct a measure of core inflation by placing dynamic restrictions on a vector autoregression (VAR) system.