What is PCE?
Personal Consumption Expenditures (PCE), also known as consumption spending, is a measure of spending on goods and services by individuals in the United States. According to the Bureau of Economic Analysis (BEA), a U.S. government agency, personal consumption expenditures account for about two-thirds of domestic spending and are an important driver of Gross Domestic Product (GDP).
Understanding PCE
Consumption spending is considered an important factor driving the U.S. economy and is a key component of GDP. For this reason, it is regarded as a leading economic indicator. It highlights purchasing habits and saving levels.
Economists and analysts use PCE to forecast future spending and economic growth. It provides insights into the needs of businesses regarding products and services and can influence employment and investment. The BEA uses consumer spending to calculate its inflation index, the Personal Consumption Expenditures Price Index (PCEPI), which is why measuring and tracking PCE is important.
The personal consumption expenditures have been reported by the BEA since 2012 in current dollars and chained dollars. PCE is one of three components in the BEA’s monthly report on personal income and expenditures: personal income indicates the amount of money consumers earn, personal disposable income represents income available after taxes, and consumption expenditures are referred to as expenditures or consumption spending.
Personal Consumption Expenditures Price Index (PCEPI)
In addition to reporting the three measures mentioned above, the personal income and expenditures report includes the Personal Consumption Expenditures Price Index (PCEPI). The PCEPI measures the prices paid by consumers for goods and services and changes in those prices. It is considered an indicator of inflation in the U.S. economy.
The Personal Consumption Expenditures Price Index is calculated using PCE data. It may indicate whether prices are rising or falling and how consumer spending behavior changes in response.
The PCEPI provides two numbers: the first is derived from all categories of personal consumption expenditures, while the second excludes food and energy data and is known as the core Personal Consumption Expenditures Price Index.
The core Personal Consumption Expenditures Price Index can make the trend of core inflation clearer. This is because food and energy prices can obscure it due to their more frequent volatility compared to other prices.
Tracking the Personal Consumption Expenditures Price Index
The BEA uses the current dollar value of personal consumption expenditures to calculate the Personal Consumption Expenditures Price Index. As mentioned, the PCEPI shows inflation or deflation in prices that occurs from period to period. Like most price indexes, the Personal Consumption Expenditures Price Index should be combined with the inflation rate (the Personal Consumption Expenditures inflation rate) and real values to determine the extent of cyclical price changes.
Both the Personal Consumption Expenditures Price Index and the core Personal Consumption Expenditures Price Index (which excludes food and energy price rates) show how much prices change from period to period. The details of the Personal Consumption Expenditures Price Index also illustrate increases or decreases in prices of goods and services by category.
Federal Reserve Preference for the Personal Consumption Expenditures Price Index
In 2012, the Personal Consumption Expenditures Price Index became the primary inflation indicator used by the Federal Reserve when making monetary policy decisions. The Federal Reserve prefers the PCEPI over the Consumer Price Index (CPI) for the following reasons:
- The PCEPI better reflects changes in consumer spending, such as the choice of substitute goods due to price changes.
- It covers a broader range of spending.
- Historical information can be adjusted to support modern data.
The PCEPI is also weighted by data gathered from business surveys, which are more reliable than consumer surveys used in the CPI. The PCEPI also uses a formula that allows for changing consumer behavior and short-term changes.
These factors lead to a more comprehensive measure of inflation. The Federal Reserve relies on the details revealed by the PCEPI because even mild inflation can be seen as an indicator of a growing economy.
Included
Other inflation indicators tracked by economists include the Producer Price Index (PPI) and the Gross Domestic Product Price Index (GDP).
How is PCE measured?
The BEA provides the value of personal consumption expenditures on a monthly basis. Like most economic details, PCE is divided between consumer goods and services. Durable goods and nondurable goods are components of consumer goods.
Durable goods are items that last more than three years. Examples include cars, electronics, household appliances, and furniture. Nondurable goods have a life expectancy of less than three years. These products include cosmetics, gasoline, and clothing. Services are tasks performed for the benefit of the consumer. Examples of services include legal consultations, house cleaning, and plumbing.
The categories represented in PCE data include:
- Durable goods: vehicles and parts, durable household furniture and equipment, recreational goods and vehicles, and other durable goods.
- Nondurable goods: food and beverages purchased for consumption away from home, clothing and footwear, gasoline and other energy goods, and other nondurable goods.
- Services: housing and utilities, healthcare, transportation services, recreational services, food and accommodation services, financial and insurance services, and other services.
The BEA measures the nation’s consumer spending and breaks it down by state and metropolitan area. While the above-mentioned monthly report is released, additional details are provided annually.
According to the BEA, most consumer spending (at market prices, including sales tax) comes from households purchasing new goods and services from private businesses. It also includes consumer purchases of new goods and services from the government.
Consumer spending also consists of expenditures by nonprofit institutions to provide services to households, household purchases of used goods, and purchases of goods and services by American residents living abroad.
Consumer spending also includes spending on behalf of households by third parties, such as employer-paid health insurance and Medicare funded through government programs, life insurance expenses, and expenses of retirement plans.
Advantages and Disadvantages of PCE
Advantages
- Consumer spending data provides insight into the economy’s performance. This information is important for economic policy and business decision-making.
- When people spend freely, it typically means that the economy is doing well. When they cut back on spending, it indicates problems in the overall economic picture.
- PCE estimates consumer spending for a large number of goods. This can provide a view of spending that takes into account
Source: https://www.investopedia.com/terms/p/pce.asp
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