The many failures of measuring inflation using CPI

Mark Thornton of Mises Institute has a food for thought piece on the topic.

The Austrians have always questioned the obsession of using CPI to measure inflation which does not include asset and commodity prices. Central bank policies do not just influence price of goods and services but also price of all kinds of assets. The former are included in CPI (albeit selectively)but latter are not. This makes the whole analysis lopsided:

Austrians oppose the whole notion of trying to accurately measure“inflation” which mainstream economists see as a general rise in prices. (Austrians view inflation as a politically engineered increase in the money supply.) A few years ago, mainstream economists like Paul Krugman chastised the Austrians for the lack of anticipated price inflation in the economy. However, their mistake was a fixation on the Consumer Price Index (CPI). If you looked around at other prices in the economy you could see higher prices in just about every other market, such as commodities, oil, gold, producer goods, real estate, and stocks.

More recently, mainstream economists have returned to fears about there not being enough inflation, and their outsized fear of deflation. For them, their fear justifies Zero Interest Rate Policy (ZIRP) and Quantitative Easing (WE), but they fail to explain why we must have rising prices. When it comes to the cost of living, most people prefer falling prices to rising prices, a condition that typically characterizes a true free market economy.


The full impact of the central bank’s monetary policy is better described by adding consumer price inflation (higher prices) and the foregone price deflation together. The combined amount shows a truer picture of the negative impact the Fed’s monetary policy has on the typical wage or salary earner. Economist Mark Brandlyprovides an estimate of this damage to an economy that consists largely of workers on fixed wages.

He calculates what the CPI would have been between 1959 and 2005 if the money supply had been fixed. Using data on the actual money supply and actual CPI, he calculates that the actual CPI in 2005 was 6.7 times higher than the CPI in 1959. In the absence of increases in the money supply, however, he calculates that CPI would have fallen by 80 percent so that the actual CPI was thirty-four times larger than what the CPI would have been in the absence of the Fed.

What would this mean for the common man? Brandly provides a few estimates about what this world would look like in terms of the prices of goods the consumer would face today:

Let’s put this in everyday terms. Suppose these estimates represent the changes in the prices of goods such as hamburgers, cars, and housing. According to these numbers, a hamburger that cost 60¢ in 1959 would have cost $4 in 2005. If the money supply had been fixed, however, that hamburger would only cost 12¢ today. Similarly, a $20,000 car in 2005 would have cost slightly less than $3,000 in 1959. Again, without the monetary effect on prices, that car would only cost $600 today. The price of a $45,000 house in 1959 would have increased to $300,000 in 2005. With a fixed money supply, that house would cost $9,000 today.

Ultimately, however, “fixing” the CPI would accomplish little. The Fed would continue to do significant harm to the working class and enrich the wealthy and the political class. The Fed has destroyed the incentive to save and turned financial markets into crony casinos. Meanwhile, economic inequality is the worst in American history. The Fed has blown up enormous economic bubbles and they are stuck with seven years of ZIRP and are too afraid to change course for fear of blowing up the world economy. Tinkering with the CPI won’t solve these problems.

The biggest problem is we are not even made to question the efficacy of all these macro measures. Teaching of Austrian school are so important to keep in mind while approaching all these ideas..


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