Final answer:
The CPI is calculated by averaging price changes in a basket of goods and services but faces issues like substitution bias, introduction of new goods, and unmeasured quality change. The BLS uses alternative methods to adjust for these, but the adjustments are often controversial and imperfect.
Step-by-step explanation:
The Consumer Price Index (CPI) is a measure that examines the weighted average of prices of a basket of consumer goods and services, such as transportation, food, and medical care. It is calculated by taking price changes for each item in the predetermined basket of goods and averaging them. Some issues with the CPI include substitution bias, the introduction of new goods, and unmeasured quality change. These biases occur because consumers may change their purchasing habits when prices change, new products are continually being introduced, and the quality of goods can improve over time. The Bureau of Labor Statistics (BLS) attempts to adjust for these biases by using alternative mathematical methods and frequently updating the basket of goods to reflect changes in consumer preferences and product quality. For example, economic studies might adjust the CPI for improvements in a product's characteristics like computer speed, memory, and screen size. However, these adjustments are often imperfect and a source of controversy among economists.