Rich people also don’t pay interest on things that depreciate 🙂

Diego Mamani, we are experiencing slowing housing starts, slowing retail sales, lower house sales, at the same time we see higher oil and rent prices. We have inflation rising while the economy is slowing. Ben attributes the persistent inflation to rising commodity prices. He does use CPI, but relies more on PCE to gauge consumer prices, at least that’s what he told the Senate.

The CPI is definitely manipulated by the government, and the inputs and methods were changed drastically in the 1960’s or 1970’s. The CPI is useful to the government for calculating cost of living increases for entitlement programs. But to me, it does NOT reflect my increased costs. I do NOT experience 2% -3% inflation in my own life, but more like 8-10%. Calculated Risk has excellent write-ups about the flaws in this measure, mainly substitution and hedonic adjustment. I researched this a little myself, and let me give you a couple examples of why the CPI is so low, when we experience prices rising so fast.

Mamani, here are a few examples. If the price of steak goes up, the government CPI statisticians exclude steak from the meat categoy and substitute the cheaper hamburger, justifying it by saying the consumer would buy hamburger if steak is too expensive. This is “hedonic adjustment”. Read about it on the government web site. Read also what inputs they use, and the weighting attributed to each. I actually have researched it, have you?

Another example. Health insurance for a family is $600/month, about 10% of wages if you make $100K/year. For employers it is the largest cost. For GM, $1,000 of every car is for health insurance for their workers. So the health insurance premium should be 10% of CPI, but is it less than 0.1%.

Another example. Housing, which costs us 33% or more of our income has risen by 10? or more annually, so housing costs should be at least 20% of CPI (this is being conservative and assuming the average American spends 20% of income on housing). But housing costs are EXCLUDED. Instead, the CPI uses owner equivalent rents. In the last 6 years, as housing prices boomed, the owner equivalent rent went DOWN, because rents got cheaper as more people bought houses. The rent component is 40% of CPI, so the housing asset bubble lowered the CPI.

The CPI is a government number, that they try to keep low so they can minimize the cost of living increases for social security, VA benefits, and disability. It is not meant to educate us about the true cost of living. So to me, I am not sure how it would ever be useful.

About pausing: Ben said he does not want the high price of oil and commodities to feed through into permanent price increases. He wants to see productivity rise, so that higher prices don’t have to be passed along.

Thanks for your responses, and I hope nobody got bored with my explanation of the CPI.

Not bored at all, but I think you’re dead wrong regarding the CPI. I believe it is what it is, and it’s not being “manipulated” (the bond market seems to think so as well, if you look at the spread on TIPS).

I know I’m probably going to be in minority on this board, but I believe the CPI is actually very well computed. I did look it up, and yes, “owner’s equivalent rent” and “hedonics” and all that make perfect sense to me (although you got your hedonics example backwards). I’m sure we could argue this at length, and I’m pretty sure that you’re going to offer a scathing rebuttal to my post, but I thought that a little difference of opinion would be helpful. Truth is, I’m getting a bit tired of all the “government is lying, AG and BB are morons, depression is coming, end of the world is near, get your gold bars and tuna cans and hide in the basement” attitude prevalent on most housing blogs.

And yes, we do experience higher inflation in SD, but the CPI is for the US as a whole, not for SD. In the euro area they had 1-2% inflation the past few years; but it was more like 8% in Ireland and Spain, while Germany was deflating. Personal perceptions can be very misleading. As they say, “In God we trust; everyone else bring data”.

“So with rents being a ton of the CPI what do you think the cpi is going to show in the future?”

You got me there. It could go either way, and I would hate to venture a guess at this point (predictions about the future are not my strong point; cold observations about the present are much easier to make :-).

Another example. Health insurance for a family is $600/month, about 10% of wages if you make $100K/year. For employers it is the largest cost. For GM, $1,000 of every car is for health insurance for their workers. So the health insurance premium should be 10% of CPI, but is it less than 0.1%.

I’m not sure how 600 bucks a month is 10% of 100K a year, especially as healthcare premiums are pre-tax. If the percentages are using pre-tax salaries then this is more like 5%.

Having said that, not everyone is a family, and not everyone pays that much in health insurance. My wife and I both work, earn close to 200K a year, and we pay about $800 a YEAR on health insurance. We have pretty good coverage through our jobs, but it’s not the best coverage out there. So I’m paying about 0.5% in insurance.

So, some will pay $600, and some pay less, and some pay nothing (government, or whatever).

Still, I agree that the CPI figures are insane and need adjusting. Especially the “core” index, which seems to me to be the inflation figure with all that pesky stuff take out. You know, the stuff that goes up in price.. Yuk.

In addition, my understanding regarding GM is that the $1000 figure you quote is for workers AND retired workers, who I believe outnumber current workers by 2 to 1. If that’s true (and I believe it’s close, if not entirely accurate) then that would put the cost at about $300 for their current workers, which is what your basically implying in your quote. GM’s problem is not so much their healthcare for their current workers (now that they’ve got rid of a bunch), it’s the costs they have to pay for the retired ones that they made promises to all those years ago. Other car companies do not have *nearly* the burden that GM has in this area.

carlislematthew, “I’m not sure how 600 bucks a month is 10% of 100K a year, especially as healthcare premiums are pre-tax. If the percentages are using pre-tax salaries then this is more like 5%.”

People who pay their own health insurance do so out of their after-tax pay, so $100K/year is about $75K after FICA and taxes, and $7200/year for health insurance is 10%. Our family pays 0 for health insurance, not even a copay, but we are the exception I believe. My husband’s employer pays the entire $8000 for our family, and that is a cost they have to bear, and for them, that is a big percentage of his wages, and a component that is rising 10-15% annually.

If you earn the median wage, then health care would be 15% or more of wages. That’s why so few people have health care insurance. But the CPI still has to consider the cost, whether you buy it or not. Thus, the CPI seriously underreports the impact of rising health care. The CPI should allocate health care premiums as the realistic percentage that is makes up of a median employer’s or householder’s income. It falls far short.

Bernanke admitted at his Senate hearing this month, that gas was removed from core CPI because it fluctuated so much. But now it no longer fluctuates. Therefore, he consider the CPI and many other measures to get a full picture of price impacts. He also relies on anecdotes. I once read that Greenspan regularly checked in with the FedEx CEO, because that guy was at the front end of the economy, and had his pulse on what was going on with prices and sales. I am sure Ben talks with various CEOs as well. He has much more data available to him that we will ever have, and he is very smart. But he cannot tell all that he knows, because his job is to maintain price stability.

Maintaining the CPi in its perverted form is necessary to maintain this price stability, IMO. Those of us who realize it, we are at the leading edge and should figure out how to profit. When the Fed pauses, stocks will probably rally, and some short players will get squeezed. Next, foreigners will be less interested in our Treasury bonds and dollars, so the prices of both will fall somewhat. This is a good month to diversify out of dollars, if anyone has plans to do so. Do it before they lose another 3%. Any comments?

Thanks for clarifying about GM.

This circular argument was made by Senator Sarbanes at the hearing last week, and Ben said , and I will paraphrase, “The PCE metric excludes rents and is more accurate anyway. We look at many factors.”