Constructing UK core inflation

The recent volatile behaviour of U.K. inflation has been officially attributed to a sequence of “unusual” price changes, prompting renewed interest in the construction of measures of “core inflation”, from which such unusual price changes may be down-weighted or even excluded. This paper proposes a new approach to constructing core inflation based on detailed analysis of the temporal stochastic structure of the individual prices underlying a particular index. This approach is illustrated using the section structure of the U.K. retail price index (RPI), providing a number of measures of core inflation that can be automatically calculated and updated to provide both a current assessment and forecasts of the underlying inflation rate in the U.K.