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Inflation is a general increase in the prices of goods or services over time. To manage the risks of long-term inflation, businesses often include a contract-escalation clause in their contracts. Contract escalation adjusts the price of goods or services covered in the contract based on an inflation index the parties to the contract agree on. The right index to use depends on the goods or services covered in the contract. When exporting or importing goods or services, many businesses use the Export and Import Price Indexes provided by the U.S. Bureau of Labor Statistics.
The U.S. Bureau of Labor Statistics produces Export and Import Price Indexes. The indexes measure changes in the prices of nonmilitary goods and services traded between the U.S. and the rest of the world. These measures show how prices of a market basket of goods and services in international trade change from one period to the next. The indexes are based on nominal, not seasonally adjusted dollar values.
The steps outlined below are guidelines to escalate contracts and the tools necessary for doing so. Terms of contracts vary from firm to firm and product to product. The following guidelines are just one possible way to create a contract escalation clause.
A coffee bean importer and a foreign producer agree to a contract worth $1,000. In the contract, the two parties decide to use the coffee, tea, mate and spices import price index under the Harmonized classification system for annual escalation. The terms of the contract specify that the $1,000 will be indexed based on the price index’s December value each year beginning in 2019 as the base period. Below is an example using a simple percentage method on how to adjust the contract price for 2020.
(a) |
Base price |
$1,000 |
(b) |
Index at time of calculation, December 2020 |
223.0 |
(c) |
Index at time base price was set, December 2019 |
210.8 |
(d) |
Divide (b) by (c) |
1.058 |
(e) |
Multiply (d) by base price equals adjusted price |
$1,058 |
The importer would pay $1,058 for 2020. This adjusted price would then serve as the base price while the December 2020 index value would serve as the base period index for the following year.
Import and export price indexes are used for a variety of purposes:
The Bureau of Labor Statistics neither encourages nor discourages the use of price adjustment measures in contractual agreements. Also, while BLS can provide technical and statistical assistance to parties developing escalation agreements, we can neither develop specific wording for contracts nor mediate legal or interpretive disputes which might arise between the parties to the agreement.
Last Modified Date: March 28, 2022