Rate of Inflation Formula

The inflation formula rate helps us understand how much the price of goods and services in an economy has increased in a year. For example, if the price of goods and services in an economy is now $103 and in the previous year the same was $100, then the inflation is $3. Below is the given formula through which we can calculate the inflation rate.

Rate of Inflation Formula = (CPI_X+1 - CPI_X) / CPI_X

Here, CPI _x means the initial consumer index.

The CPI of the previous year was $1,000 and the CPI for the current year is $1,110. Find out the rate of inflation for this year.

This example is fictitious. We took this example to simplify the understanding of the inflation rate.

• Here, we have the previous year’s CPI, $1,000.
• And, we also know the current year’s CPI, $1,110.

Using the formula, we get: –

Rate of Inflation = (CPI _x+1 – CPI _x) / CPI _x

• i.e = ($1,110 - $1,000) / $1,000 = $110 / $1,000 = 11%.
• In a normal scenario, the inflation rate is around 2%-3%. Normally, the inflation rate does not reach 11%.

• We used the above formula's consumer index for the previous year and the next year. Then, we found out the difference between these two.
• Later, we divided the difference by the previous year’s consumer price index.

Let us take a simple example to understand why the consumer price index is taken.

• Every year, the government issues new notes to the economy. With the newly published notes, the value of the currency decreases. As a result, whatever was available at $100 will not be available at $100 in the next year.

• John went to the market and bought groceries for $200. He was happy as he got everything under $200.

• Next year, John went to the market again to buy the same groceries equally. He took $200 because he knew from his previous experience that they would only cost $200. But to his utter surprise, he saw that now he would need to pay $210 for the same number of groceries. This ($210 – $200) = $10 is the inflation.

• And the inflation rate in the same scenario would be = $10/$200 = 5%.

• We can gather information about the Consumer Price Index (CPI) from the released Bureau of Labor Statistics, USA report.
• It is an important measure because it affects not only the prices of consumer goods and services but also the purchasing power of every customer.
• What a customer could buy in the previous year may not be available in the next year at the same prices. As a result, the cost of goods or services can increase.
• We need to remember that inflation and purchasing power are different.
• It is the rate of increase in the prices due to the under-valuation of currency. On the other hand, purchasing power is the person’s ability to buy goods and services as per their income.

Let us now do the same example above in Excel.

It is very simple. You need to provide the previous year’s CPI and the current year’s CPI.

You can easily calculate the ratio in the template provided.