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The Consumer Price Index, or CPI, is a vital economic metric that measures the changes in the average price paid by consumers for a basket of goods and services. The CPI is an important indicator for inflation, as changes in its value reflect the price dynamics affecting consumption in an economy.
Several important factors can affect the CPI metric, which are closely monitored by experts, governments and the media alike.
In this piece, we will look at some of the core components that make up the CPI in the United States and attempt to predict the possible future scenarios as the year 2025 steadily approaches.
How the United States CPI works
The Consumer Price Index is a weighted average of the prices paid by consumers for different categories of goods and services.
The changes in the price dynamics of each of these categories can provide economists and policy makers with important information regarding the conditions of particular markets within the country and possible pressure points that could be adversely affecting the health of the economy, as well as individual consumers.
Typically, the CPI can be broken down into several broad categories:
- Food and beverages (13.5% of CPI)
- Housing (41.5% of CPI)
- Apparel (3% of CPI)
- Transportation (15% of CPI)
- Medical care (8% of CPI)
- Recreation (5.5% of CPI)
- Education and communication (6.5% of CPI)
- Other goods and services (7% of CPI)
Each of these categories are then broken down into smaller subcategories and weights are assigned to each of them based on the spending patterns of consumers across the country.
When the CPI value rises sharply, economists can deduct which particular sectors of the economy are hit hardest with inflation, which can be caused by a myriad of factors, such as cost-push, demand-pull, monetary and psychological.
Each of these affect the economy in different ways, while the general approach to tackling inflation is raising the interest rates, which is done by the Federal Reserve.
Factors that could affect the U.S. CPI for 2024-25
When attempting to forecast inflation and changes in CPI, it is important to consider that predicting the future is not an economically viable strategy, as a multitude of unexpected factors can come into play in a relatively short period of time and greatly affect the CPI at any given moment.
However, this does not mean that we cannot closely monitor some of the major factors, catalysts and headwinds that could increase or decrease inflation in the United States in the coming months or a year.
High interest rates
After over a decade of ultra-low interest rates, the Federal Reserve has been steadily increasing rates since the Covid-19 pandemic, with current rates standing at 5.5%, which has slowed down inflation in the United States, but has also greatly affected the behavior of consumers and investors alike. If interest rate hikes persist in the future, the CPI is likely to remain stable, as higher borrowing costs quell consumption, which stabilizes demand.
On the other hand, if inflation remains a hot button issue, the Federal Reserve is likely to gradually continue increasing interest rates to combat inflation.
Real estate prices
As we have already mentioned, housing is an integral part of the Consumer Price Index, which is why the effects of interest rate hikes on the real estate market cannot be understated.
The current market trends show a slowdown in the U.S. real estate market, with major cities like New York, Los Angeles and Chicago seeing some of the steepest real estate price drops in recent history.
While this may make real estate more affordable to some consumers, most homeowners are dependent on mortgage payments, which also rises in tandem with interest rates, thus, reducing demand for properties across the country.
Consumer expectations
Overleveraged capital markets are often highlighted as a major issue that threatens economic stability in the U.S. Mainstream media is often quick to point out the dangers of such market conditions, which can affect the investment decisions of many consumers.
An expectation regarding an economic downturn or a recession makes consumers more conservative and prone to cost-cutting wherever possible to increase savings. Such attitudes are unlikely to cause a surge in the CPI.
Presidential elections
2024 is the year of presidential elections in the United States and such major political events often play a major role in the economy, as well as capital markets.
Electing a candidate with policies that favor free markets, entrepreneurship and a reduction in red tape typically boosts consumer confidence and could lead to rapid economic growth, which can be inflationary and lead to a rise in certain sectors of the economy.
Our prediction for the 2025 United States CPI
Many analysts believe that the coming year is unlikely to be majorly inflationary for the United States market. Conversely, fears surrounding the housing and equity markets and high interest rates leading the country into a recession have taken precedence over economic growth and demand-pull inflation.
According to Axiory, the U.S. stock market could be headed to a roughly 20% drop in capitalization as the market corrects itself and eroding consumer confidence catches up with the market.
As of this writing, the U.S. CPI for all items stands at 3.0%, which means that it is still above the 2% inflation that is typically desired. However, as the property market continues to cool off and interest rates remain steady, a further rise in the CPI value seems unlikely.
A CPI drop to 2% is looking likely towards the beginning of 2025, after which a gradual stabilization is to be expected across the board.
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