What is the real rate of inflation?

[edpell]

What is the "real" rate of inflation?

What is the "real" rate of inflation?

The U.S. Federal Government used one formula to calculate before the Clinton administration and now uses a different formula. The two give answers that often differ by a factor of two. Which, if either, is the right one?

 

[Evo]

What is the "real" rate of inflation?

The U.S. Federal Government used one formula to calculate before the Clinton administration and now uses a different formula. The two give answers that often differ by a factor of two. Which, if either, is the right one?

Please post a link so people know what you are referring to.

 

[Gokul43201]

It would be nice if you could show us the two formulas, or provide a link that does.

Here's a related reference: Weinstein, Broda and Leibtag, “The Role of Prices in Measuring the Poor’s Living Standards” Journal of Economic Perspectives, Spring 2009, pp. 77-97

Abstract:

Almost 50 years after President Lyndon Johnson’s famous 1964 State of the Union speech that introduced the “War on Poverty,” two facts stand out in the current debate about poverty. First, since David Caplovitz (1963) wrote his path-breaking book, The Poor Pay More, numerous researchers have confirmed that the poor indeed pay more than households of higher income for the goods and services they purchase. Second, official poverty rates as measured by the U.S. Census have remained essentially flat since the late 1960s, raising questions about the success of the policies implemented to reduce poverty. In this paper we revisit these two facts by paying close attention to the price data underlying these findings. By examining scanner data on thousands of household purchases we find that the poor pay less—not more—for the goods they purchase. In addition, by extending the advances on price measurement in the recent decade back to the 1970s, we find that current poverty rates are less than half of the official numbers. This finding underscores the importance of correctly measuring the evolution of prices to determine the appropriate poverty thresholds over time. Both findings are contrary to the conventional wisdom established in the last few decades.​

http://www.aeaweb.org/articles.php?doi=10.1257/jep.23.2.77

 

[edpell]

For a graph showing the two values over the time period 2001 to 2010 see http://www.shadowstats.com/

 

[edpell]

For lengthy but vague information on the formula currently in use see the Bureau of Labor Statistics http://www.bls.gov/

 

[russ_watters]

For a graph showing the two values over the time period 2001 to 2010 see http://www.shadowstats.com/

Even if that site detailed how they did the calculation (they don't), that still would likely not be an acceptable source (in their second graph down, on a different topic, they say they provided their own estimates). Do you have a source that actually does the calculation?

For lengthy but vague information on the formula currently in use see the Bureau of Labor Statistics http://www.bls.gov/

That's just a link to the home page for the BLS, not an article about how they do that calculation.

 

[russ_watters]

It would be nice if you could show us the two formulas, or provide a link that does.

Here's a related reference: Weinstein, Broda and Leibtag, “The Role of Prices in Measuring the Poor’s Living Standards” Journal of Economic Perspectives, Spring 2009, pp. 77-97

Abstract:

Almost 50 years after President Lyndon Johnson’s famous 1964 State of the Union speech that introduced the “War on Poverty,” two facts stand out in the current debate about poverty. First, since David Caplovitz (1963) wrote his path-breaking book, The Poor Pay More, numerous researchers have confirmed that the poor indeed pay more than households of higher income for the goods and services they purchase. Second, official poverty rates as measured by the U.S. Census have remained essentially flat since the late 1960s, raising questions about the success of the policies implemented to reduce poverty. In this paper we revisit these two facts by paying close attention to the price data underlying these findings. By examining scanner data on thousands of household purchases we find that the poor pay less—not more—for the goods they purchase. In addition, by extending the advances on price measurement in the recent decade back to the 1970s, we find that current poverty rates are less than half of the official numbers. This finding underscores the importance of correctly measuring the evolution of prices to determine the appropriate poverty thresholds over time. Both findings are contrary to the conventional wisdom established in the last few decades.​

http://www.aeaweb.org/articles.php?doi=10.1257/jep.23.2.77

That's a very interesting abstract! It certainly is counter to the conventional wisdom we've all been taught. I may have to buy it!

 

[edpell]

Even if that site detailed how they did the calculation (they don't), that still would likely not be an acceptable source (in their second graph down, on a different topic, they say they provided their own estimates). Do you have a source that actually does the calculation? That's just a link to the home page for the BLS, not an article about how they do that calculation.

The first graph is the result of the calculation using both the governments pre-Clinton formula and the post Clinton formula. The fact that they choose to calculate a new metric of their own design in figure two does not invalidate figure one.

For the current CPI number see BLS.gov so this leaves us to find a second source for the pre-Clinton CPI numbers. I will look around.

 

[edpell]

For more detail drill down on the BLS site for example
http://www.bls.gov/cpi/cpifaq.htm#Question_9
this is their FAQ "How is the CPI Calculated"

 

[edpell]

The Cleveland Federal Reserve Bank (a privately owned corporation) has some interesting articles and info for example they have:

You can see this month's weightings for individual Median CPI components
http://www.clevelandfed.org/Research/data/US-Inflation/mcpitable.cfm

 

[russ_watters]

The first graph is the result of the calculation using both the governments pre-Clinton formula and the post Clinton formula. The fact that they choose to calculate a new metric of their own design in figure two does not invalidate figure one.

This isn't an f=ma thing. It's not a simple plug and chug exercise (otherwise, you'd be able to find an actual "formula"!). The CPI is primarily a survey. And it is very complex. I'm not sure it is even possible to convert data from the two methods because the raw data collected may not even be from the same sources. An example from your link:

This is done in the field, using a method called disaggregation. For example, BLS economic assistants may be directed to price "fresh whole milk." Through the disaggregation process, the economic assistant selects the specific kind of fresh whole milk that will be priced in the outlet over time. By this process, each kind of whole milk is assigned a probability of selection, or weight, based on the amount the store sells. If, for example, Vitamin D homogenized milk in half-gallon containers makes up 70 percent of the sales of whole milk, and the same milk in quart containers accounts for 10 percent of all whole-milk sales, then the half-gallon container will be 7 times as likely to be chosen as the quart container. After probabilities are assigned, one type, brand, and container size of milk is chosen by an objective selection process based on the theory of random sampling. The particular kind of milk that is selected by disaggregation will continue to be priced each month in the same outlet.

In sum, price changes are weighted by the importance of the item in the spending patterns of the appropriate population group. The combination of all these factors gives a weighted measurement of price change for all items in all outlets, in all areas priced for the CPI.

That's a very complex process applied to one specific product. The entire exercise takes a team of economists to do it.

Either way, the website with the criticism did not explain how they did what they did. That would at least be a start that would enable us to evaluate their (your) claim. Right now, we have nothing.

 

[russ_watters]

Here's an article about the author and his website:

He criticizes almost all the major changes made in data gathering and analysis in recent decades, most of which had wide support among experts of all political stripes.

"All of those methodological changes were made after academic economists did decades of research and said they should be done," said UC San Diego economist Valerie Ramey, a member of the Federal Economic Statistics Advisory Committee.

http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2008/05/25/BU6K10JTEF.DTL&feed=rss.news

On that link is a description, from him, of the changes:

-- About a decade ago, the bureau shifted to a model in which consumers are assumed to switch some of their purchases within narrowly defined categories from items that have gone up in price to other items that have risen less, such as buying round steak instead of porterhouse.

-- The bureau has long adjusted prices for quality improvements. If a product gets better or if useful features are added, its price is adjusted down. Thus, with automobiles, additions such as antilock brakes have sometimes resulted in price decreases in calculating the CPI, even though the actual cost of cars went up. In the late 1980s and 1990s, new quality-adjustment techniques were introduced for a range of products, including washers, dryers and televisions.

Each of these changes has had the effect of reducing the reported inflation rate, according to Williams.

Those changes seem perfectly reasonable to me. Do you disagree? Why?

 

[russ_watters]

Here's an article the guy wrote about his methodology:

SGS does not have the resources to survey prices of thousands of items nationwide four times a month, as the BLS does. That is not necessary, since a statistically meaningful inflation rate can be produced by a much smaller sampling of appropriate commodities, and SGS is using such simplified sampling of commodities in its index. Statistical significance of the approach will be addressed in the methodology.

http://www.shadowstats.com/article/cpi-measures

Near as I can tell, he doesn't say what sampling he's done. But he shows a graph with three sets of data:

-The official CPI
-A version of the CPI corrected by the BLS for previous methodology.
-His version of the CPI corrected for previous methodology.

His interpretation of the effect of the change in methodology is vastly different from what the BLS says. Without a good reason, you can't just dismiss that data. It's such a big difference, a simple gut check is all you need to tell you it must be bogus:

From his graph, the official stats have the CPI rising by about 30% over the last ten years of that data (ending in 2004). Over the same time, his shows about a 75% increase. From census income data (linked in the other thread), the middle bracket's (middle middle class) income rose 37% non inflation adjusted or 9% after inflation. By my calculation, (1-1.37/1.75), that equates to about a 22% drop in real spending power for the middle class. That's a pretty huge drop that should be very noticeable in the standard of living. So how has that affected some of the major purchases of Americans. The most expensive thing people own is a house, so you'd expect that to drive the home ownership rate way down. But it hasn't gone down, it has been steadily rising (not much, but some) and is above what it was in 1960 (62% then, 68% now): http://en.wikipedia.org/wiki/File:US_home_ownership_by_race.png

In terms of individuals, people tend to forget that historical income stats are just slices of the population and don't track individual people. Individual people have a tendency to get richer throughout their lifetime. You start off at a job making a low wage and you get raises and promotions. So most people, when they retire, make vastly more than when they were younger. But a 75% increase in CPI would swamp that: it would require about a 7% average yearly raise just to break even. It would mean that on average most people get poorer as they get older. Kids wouldn't ever leave the house. Young workers who live in apartments would never be able to buy houses or afford a better car, etc.

Ie, page 13: http://www.census.gov/prod/2009pubs/p60-236.pdf
The median income for the 25-34 age bracket is $51,400 and the median income for the 45-54 age bracket is $64,349, an increase of 25% in 20 years of age difference, which is an increase of about 1% a year over inflation...but if inflation is vastly higher as this guy suggests, that 1% increase would become something like a 3.5% drop.

What he's suggesting just can't be true.

 

[CRGreathouse]

I discussed this with someone by email before. From my 2008-06-28 email:

[L]et's consider a family making $17,710, the median household income, in 1980. The CPI-U statistics say that this is worth $48,047 today. This compares to the 2006 median income of $48,201 very closely -- actually more closely than I would have expected, though the figures for 2008 won't be quite as close (probably a hair under $50k). The shadowstats inflation figures say that the value of the median 1980 household in 2008 dollars is $139,130. Doesn't that seem dramatically wrong?

I used what were, at the time, the latest finalized median income figures. Someone interested could calculate current figures, but they would surely be more extreme. Also relevant: http://www.bls.gov/cpi/cpiqa.htm, released in 2008 by the BLS in response to these sorts of claims.
In short, the ShadowStats inflation figures are deeply flawed.

 

[mheslep]

Again from the source Russ linked above:

-- The bureau has long adjusted prices for quality improvements. If a product gets better or if useful features are added, its price is adjusted down. Thus, with automobiles, additions such as antilock brakes have sometimes resulted in price decreases in calculating the CPI, even though the actual cost of cars went up. In the late 1980s and 1990s, new quality-adjustment techniques were introduced for a range of products, including washers, dryers and televisions.

It seems the most illustrative example would be in computing. Today's desktop computer is a million times more powerful than one from 1980. Someone in 1980 would have had to buy a cargo ship full computers to match a single recent desktop. So for the 'alternate' CPI promoters to compare 1980 and today and say, "aha, the price of the desktop computer has inflated 20%" or whatever is simplistic to the point of silliness, at least in that case. Had the BLS continued with the old technique, they might have eventually found themselves attempting to price the equivalent of a stage coach trip from DC to Philadelphia.

On the other hand, I expect it must take some substantial familiarity with every product area to make those assessments, and thus require some substantial resources, or risk mistakes.

 

[mgb_phys]

Like most government statistics it's a con. The consumer price index is a basket of goods and services, and every year they change what's in the basket - or as mheslep said they would be pricing stage coach rides.

The new index was criticized for including Plasma TVs, which fall in price but you don't buy everyday, but it doesn't include mortgage or fuel costs or increases in tax.

 

[CRGreathouse]

[from the other thread]

second source for pre-Clinton CPI

http://www.gold-eagle.com/gold_digest_08/taylor061208.html

"The chart on your left shows the Official CPI in red. The blue “Alternate CPI” was calculated by economist Walter Williams, who simply applied the same methods of CPI calculation as was used pre-Clinton. Note that the existing CPI using pre-Clinton methodology is already close to 12%. By contrast, the “official” government number is only 4%."

if you do not like these sources can you post a source?

That site is authored by a guy hawking gold. That doesn't mean the sources the gold-guy references are bogus, but if you really want to know what is behind the alternate CPI story, why not follow up by searching for the actual data and basis for the calculations by W. Williams the economist.

Here's his publication list. Any ideas as to what's being referenced?
http://www.gmu.edu/depts/economics/wew/publist.html

Edit: See below. It looks like the reference was not to the economist whose page I liked to, but to the ShadowStats guy.

 

[CRGreathouse]

The new index was criticized for including Plasma TVs, which fall in price but you don't buy everyday, but it doesn't include mortgage or fuel costs or increases in tax.

It includes plasma TVs, mortgage costs, and fuel costs, but not tax increases.

Edit: I was referring to the *US* CPI. I'll have to look up the UK CPI; I don't know what's included there.

 

[mgb_phys]

RPI includes mortgage and council tax, CPI doesn't
RPI is the more official one reported to the Eu.

 

[CRGreathouse]

I was discussing the US CPI; the UK CPI is not known to me.

Many taxes *are* included in the US CPI: sales taxes, excise taxes, and (indirectly) property taxes.

So that makes it pretty comparable to the RPI. I'll admit that I don't know the difference between a mortgage tax and council tax, though; I've never owned property in the UK (though I did live in Wales for some years).

 

[mgb_phys]

I though the term 'CPI' was only UK usage.
Council tax is just property tax - per person but banded by the value of your property.

 

[CRGreathouse]

Council tax is just property tax - per person but banded by the value of your property.

That's what I thought... but then what is mortgage tax?

 

[mheslep]

[from the other thread]Here's his publication list. Any ideas as to what's being referenced?
http://www.gmu.edu/depts/economics/wew/publist.html

Ack, I've been tricked. I thought this 'Alternate CPI' bit was from Walter E. Williams, the highly published economist and academic you have listed above. 'Alternate CPI' is in fact by the ShadowStats guy, Walter 'John' Williams.

 

[CRGreathouse]

Ack, I've been tricked. I thought this 'Alternate CPI' bit was from Walter E. Williams, the highly published economist and academic you have listed above. 'Alternate CPI' is in fact by the ShadowStats guy, Walter 'John' Williams.

Ah! it makes sense now. Glad that's cleared up. Thanks for pointing that out -- I was thinking, "I don't see anything related to inflation here...".

 

[russ_watters]

Well, we've established that the source is unacceptable, so there really isn't anything on which to base this thread. Really, we let this go longer than we should have: at face value the source fails the most basic test of validity: it is data manufactured by an individual to push a personal theory and it isn't peer reviewed/published. edpell, if you have a legitimate source (one that meets PF guidelines) on which to base this discussion, PM a moderator and we can re-open/restart the thread. Failing to find a legitimate source, you may want to consider what impact that has on the validity of your opinion.

Thread locked.