Should CPI Get You Mad?


Filed Under Latest News on Aug 8 

While Joseph Lawler’s piece in the Washington Examiner on why Americans keep getting inflation “wrong” might not have been front-page, headline-making news, it certainly did evoke a cluster of consistently angry responses from readers. As the readers quite bluntly suggested, the CPI is not an accurate reflection of the cost of living they face. Are the readers right, and the sources quoted by Lawler – the unforgettably named Wandi Bruine de Bruin, a psychologist hired by the New York Fed, and Mary Burke, a Boston Fed researcher – wrong? There is a growing viewpoint that suggests that that is indeed the case. In the first case, the CPI is used to index wages of government workers, including the Bureau of Labor statisticians who cobble together the omnipresent index. This is a clear conflict of interest as it obviously is in the interest of government to present a low – but not negative – CPI in order to keep the cost of government wages down. The second point is that the CPI is an artificially assembled basket of prices of goods and services that an “average” household supposedly consumes. By definition, it is not representative of any household or individual whose actual expenditures deviate from this mean. Do you spend a higher percentage of your budget on food and gas compared to the CPI mean? Then you have a higher cost of living than that measured by the index.

Thirdly, and most controversially, the methodology used to put together the CPI has changed over the years, as Congress has put its very visible hands on the process to ensure that inflation is not “overstated.” In its original form, the CPI was calculated as a Cost of Goods Index (COGI); the change in the price of a fixed basket of goods and services over two time periods. It is now a Cost of Living Index (COLI). This is a far different beast; it involves making value judgments about what goods and services must be consumed to maintain a certain quality of life. The quality of the good or service consumed (mostly processing power in your CPU and bells and whistles in your vehicle) is taken into account and weightings are changed continually. That usually means less weightings over time for the stuff that costs more like food and gas, and higher weightings for the stuff that costs less or that costs more but gives you more, according to the Bureau of Labor statisticians.

Some economists call for a return to COGI which would mean current CPI is running over 5% annually according to some estimates. Others call for commoditiy price indexes which are the leading indicators of inflation in their view with CPI as a lagging indicator. This methodology gives you an inflation rate of around 8% annually. Then there is the Austrian school of economics – and others – who view inflation as an increase in the money supply which devalues any currency by the rate of the increase. M2 (cash, checking and savings deposits and money market funds) increased almost 5% last year. Clearly, there is a huge disconnect between these indicators and the offical CPI that is running at less than 2%. Who do you believe?