Why Inflation Is Lower Than You Think

In one of the smartest pieces of linkbait I've seen in a very long time, David Leonhardt today not only defends the CPI, but even says it's overstating inflation:

When the new inflation numbers come out next week, they will indeed be misleading. They will be artificially high.

I hope Barry Ritholtz, for one, is sitting down when he reads it. But Leonhardt makes some really good points. We're much more likely to notice that the price of bananas has gone up, he says, than we are to notice that the price of oranges has gone down. And prices of things we buy a lot, like gasoline, are more obvious to us than things we buy infrequently, like cars or appliances.

Still, the biggest problem with inflation is that it is a tax on the poor, and the poor don't really need lots of new women's clothes or new cars. What they do need is rent, food, and energy. No one's going to mind if the price of Hamptons mansions or Andy Warhols or bottles of 1982 Le Pin goes up a lot. But everybody needs to eat, and, in the US, a majority of people need to drive, if they're going to be economically productive. So some kinds of inflation are much more harmful than others.

That said, if you look at where the CPI is now, and then you ask where economists thought it would be if oil reached $120 a barrel, I think we're probably doing pretty well. Although maybe that just means there's more food and energy inflation to come.

Comments

[HARM:]

<i>Still, the biggest problem with inflation is that it is a tax on the poor, and the poor don't really need lots of new women's clothes or new cars. What they do need is rent, food, and energy. No one's going to mind if the price of Hamptons mansions or Andy Warhols or bottles of 1982 Le Pin goes up a lot. But everybody needs to eat, and, in the US, a majority of people need to drive, if they're going to be economically productive. So some kinds of inflation are much more harmful than others.</i>

This (true statement), in itself nullifies your article's main premise. And for the record, I'm sure Barry Ritholtz would agree with it 100%.

Inflation in everything we *need*, but deflation in those things we *don't*. CPI = inflation measure for only those things we *don't* need.

2008 May 07 05:25 PM

[Adam Axler:]

Sounds like Mr. Leonhardt is a fed apologist who thinks "core inflation" shouldn't matter. Nevermind that the government stopped releasing M3 data so we can't track the printing press and 15%/year additional money supply. Nevermind that gas and bananas have doubled, but wages have barely increased. That sounds suspiciously like inflation, doesn't it?

2008 May 07 05:41 PM

[billddrummer:]

Combating inflation on a personal level is a combination of actions. Deciding where to shop for groceries is as important as deciding which groceeries to buy. If you happen to like shrimp, and you're used to eating them once a week, perhaps twice a month is going to be your choice.

In the 1970s, people were urged to cut down on unnecessary auto trips, combine errands, and the like, to limit gasoline usage.

Inflation is like sales tax on food: The least able to pay are stuck with the brunt of the impact.

2008 May 07 06:03 PM

[res ipsa lo...:]

Speaking of Barry, he blogged a month or so ago about the significant change to the CPI made during the Clinton Administration which lowered inflation measures. The government likes to keep the CPI low since it keeps their inflation-indexed payouts lower--they are not interested in actually measuring inflation's impact on the economy at all, they are interested in preventing political unrest in an election year and keeping payouts low. They've succeeded at the second goal but can't fool the average American on the first. A decade of declining real wages coupled with accelerating core inflation cannot be 'indexed' away as if it were simple a number trick because the pain is real and growing. No matter how the politicians spin it.

2008 May 07 06:14 PM

[winslow:]

We have grown accustomed to "untruths". When was the last time a politician had a platform of accumulating the "best" and "most accurate" data available in order to make decisions. The Bush administration has been exceptionally poor at providing accurate information.

2008 May 07 06:21 PM

[Tim T:]

Incentive, incentives, incentives. If you had a legal money printing press in your basement you would use it. Period. As long as government controls the medium of exchange it's subjects will always be robbed. That's the game.

2008 May 07 08:08 PM

[Jason Rines...:]

Very much agreed Winslow. As investors, CEO's or entrepenuars, the knowledgeable amoungst us knows lack of research KILLS. The lingering Iraq conflict with insurgents demonstrates the lack of research and minimizing the feeling that Sunni's and Shiites wouldn't cooperate together. The U.S. government has access to the best information in the world. Take a look at the SAIC and see what they do. But pride by having a big stick tends to often get in the way of conducting research on critical matters whether economic or military conflicts.

2008 May 07 10:24 PM

[Just Say Whoa!:]

I read just yesterday:

"Recessions ALWAYS stop inflation"

So, perhaps if David Leonhardt's premise is correct...

...it would appear there is possibly a wee bit of "recession" creeping into the economy.

2008 May 07 10:54 PM

[wilesmt:]

Most people get inflation all wrong - it is not an increase in prices. An increase in prices is merely an indicator of inflation (however, increased prices are not always a result of inflation.) Oil and food prices went up? So what, this can be attributed just as much to an increase in demand from China (or other emerging markets) as an increase in the money supply. Hence the total increase in prices of these goods is not sorely the result of inflation.

2008 May 08 12:07 AM

[bearfund:]

Inflation isn't just a tax on the poor, it's a tax on savers. In fact, it's a subsidy collected from savers and paid to debtors. If that's not a perverse incentive, I don't know what is.

2008 May 08 01:54 AM

[fxtrader07:]

as for oil prices - they have not yet really started to feed into the overall economy. refiners are losing money big time these days - what do you think how long gasoline and diesel will stay below refining costs? (hint: latest right after the election they will catch up) The fed and all the mainstream dead fish economists will be surprised when gasoline and heating oil blast through $4/gallon despite economic weakness - and then feeds through the rest of the food chain. natural gas, btw was pretty low until a few months ago. the effects of NG price rises will soon arrive, too.
now, as GT Mark correctly pointed out, price increase does not equal inflation. therefore, the debate about inflation rates (and whether they are stated correctly or not) misses the point: as a result of loose monetary policy and a credit bubble (excess dollar creation) the chicken now come home to roost in form of largely externally driven higher prices for food and commodities (memo to bernanke and paulson: a weak dollar isn't bad, of course and doesn't affect the ordinary u.s. citizen, no?). The point is: the economy as such cannot escape them! Either consumers get squeezed to the hilt - or the corporations cannot paas their higher input costs on to them. Either private incomes get hit very hard - or corporate incomes get - which in turn lead to slower growth, lower investment, job losses etc.
People who like to brag that a scenario along the Japanese ain't possible for the USA because the Fed will prevent it, should think twice. Low interest rates cna serve to repair balance sheets over time. They can do almost nothing about overstretched borrowers (in the U.S.' case consumers) as their problem is not the price of new credit - but the income needed to service existing debt and pay bills.
With banking sector paralyzed as it is today a 1% borrowing rate set by the fed cannot be passed on to consumers by the banks as their real costs of capital are way above that.
a slow, water-torture like march toward first stagflation and then deflation and depression seems to be almost inevitable over the coming years.
good luck to the new administration.
famous line (in reverse of the manipulated election in 2000): "what would you do when elected?" - "I'd demand a recount"

however, thanks for pointing out that article.

2008 May 08 05:05 AM

[richjoy:]

I agree with Mr. Salmon's essay, and it needed to be said.

I would add that there are ways all of us can reduce the impact of inflation on our own spending. Also that it was Alan Greenspan who went before Congress again and again to argue for reducing the rate at which Social Security recognized inflation.

And finally, yes, inflation's most significant impact is on the poor--now that you have said it, do you feel better?...and what EXACTLY do you (seriously) propose is done to assist the poor?

2008 May 08 08:36 AM

[Eric Balkan:]

The Leonhardt article is moronic. It simply confuses quality of life with inflation. If you buy an apple today, and it costs 10% more than an apple you bought last month, but tastes twice as good, your quality of life has increased, but your cost of living has not decreased. You're now spending more on apples than you did before. The only way inflation would not increase in this case is if you could go still back to the store and buy the same apples you bought last month at the same price.

2008 May 08 09:07 AM

[ddgr:]

Goto shadowstats.com and tell me again that inflation is less than we think!

2008 May 08 09:54 AM

[Ames Tiedeman:]

Its not what I think, its what I feel. Inflation is felt.

2008 May 08 10:03 AM

[CaptBob:]

What foolishness! It wouldn't matter if oil was $5000--They don't include it in the CPI!!! Do you think they want fuel boosting Social Security payments??
"Everybody has to eat" Well guess what? "Eats" don't count either!!

We've doubled the dollar liquidity with printed fiat dollars--That alone should have doubled inflation---that also is kept from the Public!!
What a joke!!!.

2008 May 08 12:20 PM

[Chuckhh:]

Adam, you can find the M3 statistics at shadowstats.com under "alternate data". If you sign up for their free newletter they will send you an update about once per month. M3 is growing at 17% and real inflation is growing at 12% and not the 4% the government would lead up to believe.

2008 May 08 12:59 PM

[devassocx:]

It is foolish to deny that intense inflation is happening and there
is much more to come.

The gov't is totally cooking the books on inflation measurement.

Bearfund's comments are dead on about robbing savers to bail out
debtors.

Inflation is theft, pure and simple.

2008 May 08 02:01 PM

[pharma:]

"The gov't is totally cooking the books on inflation measurement. "

What a surprise.

The USA government is not "by the people and for the people". It represents exclusively very narrow special interest groups. So, it must lie. They are no better than a used-car salesman.

Personally, I do not remember when the last time US President told truth. May be Ronald Reagan tried doing it occasionally.

2008 May 08 02:34 PM

[E.D. Hart:]

Chinese inflation is at about 8-9%. How long before Chinese leaders slow inflation by revaluing the yuan? and thereby devaluing the dollar further? Answer: Soon. This will have the net effect of increasing inflation here at home.

As the Chinese let their currency rise, the cost of goods to Walmart increases, and the cost of a basket of commodities (priced in dollars) decreases...thus fueling demand by the Chinese. This is a decade long process needed to cure a severe global monetary imbalance.

There is no commodity bubble but a US treasury bubble, and a dollar bubble.

2008 May 09 07:25 PM

[sbenard:]

Just read the consensus of the opinions here. That's tell you what true inflation is -- HIGH!

2008 May 11 09:20 PM