• indicator for in-/deflationary trends in China
• joint work with People’s Bank of China
• outperforms traditional core measures over different samples
• developed and implemented during regular visits since 2012
• presented at PBoC internal seminars and published as PBoC and BIS working paper, ongoing joint research
• updated regularly at PBoC

Abstract

Headline consumer price inflation (CPI) is often considered too noisy, narrowly defined, and/or slowly available for policymaking. On the other hand, traditional core inflation measures may reduce volatility but do not address other issues and may even exclude relevant information. The underlying inflation gauge (UIG) for China differentiates between trend and noise, is available daily and uses a broad set of variables that potentially influence inflation. Its construction follows the works with other major central banks and adopts the methodology of a dynamic factor model that extracts the lower frequency components as developed by Forni et al. (2000). It also draws on the experience of the People’s Bank of China in modelling inflation. The indicator is the first dynamic factor model for inflation in a large emerging market economy. UIG for China is less noisy but still closely tracks the headline CPI. It does not suffer from the excess volatility reduction that plagues traditional core inflation measures and instead provides additional information. Finally, when forecasting the headline CPI, UIG for China outperforms traditional core measures over different samples.