RICH PEOPLE DON’T USE ARMS

[waiting hawk]

That’s Boom as in ‘Bubble Burst.’ FMNN Senior Market Strategist at Wisdom Financial Inc has some sad news for one sector of real estate

RICH PEOPLE DON’T USE ARMS

[powayseller]

I enjoyed the Emanuel Balarie audio interview (first link). He is predicting a Fed funds rate of 6-6.25%, and I cannot for the life of me figure out why Bill Fleckenstein keeps saying the Fed will pause. He’s been wrong for months, and I think he’ll be wrong again.

The reasons given by Balarie for 6% Fed funds rate: Ben is data dependent, and inflation keeps rising. The economy is slowing because consumers overspent, so raising rates won’t make it much worse for the consumer but it WILL keep inflation from rising more. Ben’s biggest concern is inflation, not the slowing economy.

I side with Balarie on this one. Ben said in his Senate testimony that the economy is doing well because the Fed has credibility, because it has reduced inflation expectations. It is the expectation of inflation that causes inflation. If a company gets a higher price input and believes it is temporary, it will not pass along that price increase. But if it believe it is permanent, it will raise prices; next, workers demand higher wages, and the cycle starts.

This psychological factor in the markets (EXPECTATIONS of inflation cause inflation) explains why he sent his Fed governors around the country talking up their inflation concerns. He wants us all to know the Fed is concerned about inflation and will act to contain it.

Ben said that price stability is the Fed’s prime mission. So he must keep raising interest rates until he has data to prove that prices are stable.

In his testimony, he explained he does not rely on CPI, but on many other data points as well. So we can’t think he is fooled by the massaging of CPI numbers, since that is only one of the many inputs he considers.

I still don’t get why some people say the Fed will pause. What is their reasoning?

[anxvariety]

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

[Diego Mamani]

Rising inflation and slowing economy? Really?

Ben is data dependent, and inflation keeps rising. The economy is slowing because consumers overspent…

Inflation rising and economy slowing at the same time? If the economy is slowing, then the Fed doesn’t have to worry about fighting inflation. The reality, of course, is that the economy is in fairly good shape. The stagflation scenario (high inflation and slowing economy) was a reality in the 1970s, when overactive policy makers thought they could stimulate the economy by printing more money. It didn’t work.

We have a far better Fed today than then, so the risk of stagflation is negligible. Note that stagflation is not something that occurs naturally: it is almost always the result of pumping too much liquidity.

In his testimony, he explained he does not rely on CPI, but on many other data points as well.

The CPI is the outcome variable of interest, which in turn is affected by many other variables, all closely watched. The Fed does rely on the CPI, and energy prices, and payroll numbers, and housing starts, and foreign trade, and exchange rates, and govt spending, etc.

So we can’t think he is fooled by the massaging of CPI numbers, since that is only one of the many inputs he considers.

I saw one other post where you wrote about the “real” inflation versus the manipulated numbers released to the public. The CPI is computed in a technical fashion, by skilled people. To suggest that the government, or some other entity, manipulates the CPI numbers, is ludicrous.

If we start thinking that official statistics are manipulated or massaged, then any intelligent discussion of macroeconomics would have to be disassociated from reality. In a world where official statistics are “lies”, then the “true” numbers would be what any charlatan wants them to be to fit his or her argument.

I still don’t get why some people say the Fed will pause.

We don’t know for sure, but it can be argued that high oil prices already serve the purpose of cooling down the economy. Note the distinction between higher price levels due to expensive oil (a one time jump in prices) as opposed to higher inflation (a sustained increase in prices). The point to make is that the former does not necessarily imply the latter.

Another reason is that the Fed may want to see if the recent hikes in short term rates will (or not) affect long term rates. Certainly you don’t want to keep pushing S-T rates up more than necessary, because then you risk really slowing down the economy.

[powayseller]

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.

[waiting hawk]

europac.net/newspop

“The argument that weaker growth will somehow cause consumer prices to rise more slowly focuses on the demand side of the price equation and ignores the supply side. Prices are a function of both supply and demand, and while slower growth, or an outright recessions, would certainly reduce demand, it would also work to reduce supply. The result could well be equilibrium prices that are higher during a recession than during an expansion. ”

My website tracking Temecula and South Riverside County

[Daniel]

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”.

[waiting hawk]

“I believe the CPI is actually very well computed”

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

My website tracking Temecula and South Riverside County

[Daniel]

“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 :-).

[lamoneyguy]

But investors are like voters. They can never remember more than four years back.

One of the best lines I have read in a really long time.

~lamoneyguy

[carlislematthew]

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 saw one other post where you wrote about the “real” inflation versus the manipulated numbers released to the public. The CPI is computed in a technical fashion, by skilled people. To suggest that the government, or some other entity, manipulates the CPI numbers, is ludicrous.

They don’t manipulate it in the sense that they “fix the figures”. They certainly don’t just make up numbers or lie about it. That wasn’t at all what was meant.

What the goverment DOES do, and they’ve done it for decades, is move various categories out of the CPI if they go up in price, and replace them with others. I personally don’t think that’s so bad as long as it’s done reasonably. I myself will not buy steak if it’s above a certain price, and I never touch $4 a pound asparagus even though I love the stuff!

The main issues I have with the CPI is that the percentages they use for things like healthcare are off. Similarly, real-estate increases have not been factored in because they use this weird “rent” figure. So while mortgages have been going up for real people in the real world, the CPI has not been relecting this.

Finally, the biggest sin is the “core” inflation figure which removes food and energy. What has been going up the most recently? Yeah, energy! Gasoline, gas, etc. So real increases in the costs to consumers over the last few years have been masked by these simplified “core” figures. Ultimately, energy prices feeds into other prices (food!) of goods, so core CPI will be affected, but it’s not the same thing in my opinion.

I also believe that it *is* in the best interests of the government to keep CPI down, in general, because it is used as a link for various government payouts. Powayseller has mentioned a few…

I don’t think it’s any big conspiracy. It’s way too obvious for that. 🙂

[powayseller]

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.

[VCJIM]

I recently read a funny conundrum:

Inflation rises, so fed raises interest rates. Rising interest rates makes house purchases less affordable, thereby increasing rentals. Increase rental demand causes increased rental prices, which increases inflation.

while redically oversimplified, it made me realize the number of factors that must be at odds with each other, and constantly changing with time, micro and macro economics, politics, etc. when interest rates change. I like the idea that the head of the Federal Reserve is in contact with corporate CEOs and the like, to get a real idea of what is happening.

[powayseller]

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.”

[Author]

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