On the Methodology of Measuring Core Inflation

Abstract

We propose a new methodology to construct core inflation which is, unlike other conventional methods, not based on ad hoc elimination/trimming of prices. The empirical results suggest that the proposed measure of core inflation is highly correlated with headline inflation and is noise free; hence less volatile. The underlying inflation derived from such method is found to be a powerful leading indicator of headline inflation while other conventional measures do not seem to reflect such fundamental property of core inflation.