Why Has CPI Inflation Calculation Changed Over Time?


Consumer prices are rising 8.3 percent in April compared to the previous year, the fastest in nearly 40 years.

As popular anger over rising costs mounts, a chorus of critics argue the sky-high inflation figure is actually underestimated.

In YouTube videos, conservative talk shows, and broadcasts by financial analysts, critics argue that over the past few decades, economists have modified one of the government’s standard measures of inflation, the Consumer Price Index, to underestimate how quickly prices are rising. . These low inflation figures, they argue, give the government an economic breathing room and save on spending like Social Security.

“Ultimately, these are not accurate numbers,” said Fox News host Tucker Carlson. during a segment inflation at the end of last year. “Calculate and you’ll see that the real number is that the rise in inflation is not even close to the 7 percent that Washington claims,” ​​he added.

But inflation experts say changes to the calculations over the years create a more accurate snapshot of how much prices have risen for shoppers at the reported rate. The rate may be higher under a different methodology, but they say the impact will be small and the alternative number will do a poorer job of reflecting the costs consumers are dealing with. Inflation affects different people differently.however, this does not mean that the total numbers are incorrect.

“You have to understand the concept: What are people currently paying for consumption?” said Alan Detmeister, formerly head of the prices and wages division at the Federal Reserve and now at bank UBS. “Trying to get it from out-of-pocket expenses.”

Here are two major changes in inflation since the 1980s and why economists have embraced them.

People who are skeptical of America’s inflation measures often cite a change in how home costs are measured in the Consumer Price Index, a closely watched measurement produced by the Bureau of Labor Statistics.

In 1983, the government switched from using home prices, which included mortgage payments and maintenance costs, to using rental prices to measure the cost of housing.

Owners’ housing cost is now measured using what is called “owners’ equivalent rent.”

The idea is that homes are an investment. Home prices rise and you can eventually sell a property you bought for a profit. But rent represents consumption. It doesn’t leave you an asset to sell down the road.

Critics often argue that the inflation metric underestimates the cost of living when home prices are out of the equation, when home prices rise markedly and first-time buyers find it more expensive to get a foothold. Some even claim If the government had used the old methodology, the reported rate of inflation would be much higher today than it was in the 1980s.

It’s true that inflation isn’t perfectly comparable over time because of the change in the way housing is measured, said Omair Sharif, founder of research firm Inflation Insights. However, this change will not be enough to push today’s inflation higher than it reached about 15 percent 40 years ago.

“Yes, inflation would be higher today, but roughly 1.25 percentage points, not the 4 to 5 percentage points people say,” said Mr Sharif, who pulled home price, mortgage costs and home repair data for the 1970s last year. did the math on the old numbers to see their respective weights and how much the change in methodology changed inflation.

“It wasn’t the mind-blowing number that many people thought,” he said.

Another estimate — using calculations used in one study paper Updated for The Quarterly Journal of Economics and newsletter Full-Stack Economy — found that including house prices and interest rates instead of rent would increase the inflation rate by 3.6 percentage points from the official figure that month to 11.5 percent in February, the latest available date. This is more than Mr. Sharif estimated, but still less than in the 1980s.

Others argue that the CPI’s rent measure underestimates the cost of other types of shelter, pointing out that real-time rent monitors tend to catch up with rising prices much faster. But there’s a simple reason for this: When tracking new leases, CPI keeps track of a sample of existing leases, including those renewing their leases.

“This difference means that currently the CPI does not do a good job of describing how costly it is for an individual or household to provide housing in a new city,” said Jeff Tucker, a senior economist in real estate. website Zillow. But the point is to better reflect what prices look like for all consumers, not just those looking for a new home, he said.

Economists once collected a basket of items such as eggs, milk, shampoo and other items and tracked how much they cost over time, rarely updating the basket. However, this measure has been criticized for potentially overestimating inflation, because consumers Adjust their spending both over time and as prices increase.

economists started updating the cart more regularly It was about 20 years ago, and the weights now reset every two years to reflect what people are actually spending their money on.

They also tried to account for substitutions. Imagine the price of cupcakes goes up a month. The consumer can buy cookies instead of paying more – a good but cheaper dessert alternative – and their monthly costs won’t increase.

They may also purchase a cupcake with fewer cupcakes, switch to a cheaper brand, or shop at a discount store where cupcakes are cheaper. To account for this behavior, the government fixed the problem in the eyes of many economists in 1999 by fine-tuning how it calculated inflation in certain categories.

Critics sometimes make a separate point: product swaps are made between completely different categories, such as using chicken when the price of steak goes up. These larger substitutions are not included in the normal CPI calculation, but are included for a measure called the Chained Consumer Price Index. While the CPI showed that prices rose 8.3 percent in April compared to the previous year, the chain CPI was a little quieter, only 7.8 percent.

Do you think these changes are not enough? There will definitely be more. The Department of Labor is still constantly making changes to try to make the CPI a more accurate reflection of reality.

“It’s a good long-term method,” said Mr Detmeister of UBS. “For several months, or even a year, it may be different from what happens in the field.”


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