Joseph A. LaVorgna, the Chief US Economist of Deutsche Bank, asks the question: "Can Inflation Go Up but the Fed Stay Measured?" He answers “yes,” because the inflation measure that Greenspan favors is focused on the core PCE deflator.
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Core CPI Runs Ahead of Core PCE
Source: DB Global Markets Research
LaVorgna argues the core PCE is an implicit index — its weights change based on changes in consumer buying patterns. When prices rise, consumers tend to find lower priced substitutes and these substitutions help keep inflation down.
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This is quite revealing of economists in general. Somehow, he omits to mention what one substitutes for gasoline, heating oil, milk, college or health care.
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Yes, what does one substitute for a home who’s price has increased by upwards of 70% (or more, depending on where you live) in the last five years? Maybe condo’s and townhomes, but then what? Trailers?
I believe that the fed has been using rents not home prices to track the cost of living. So far these don’t reflect inflation to the same degree. In the SF bay area rents have been fairly steady the last few years.
Over all the games with inflation calculations are a serious undermining of the system. It is going to mess up faith in all sorts of numbers, and probably not just the economic.
I don’t understand why people are doing this. At a mimimum you need to keep the same variables (as close as possible) over the years. You can study flaws in this and add certain alternative schemes, (one I would like to see is the situation of families who already depend on the cheaper substitutes) but we’ve reached the point where we are comparing different things.
It’s another example of how economics can’t be considered a “science.” There is some true science done under it’s auspices, but it’s practitioners as a group don’t have the proper set of mind. They are letting theory distort admittedly imperfect measurement, it’s equivalent to shifting a measure of average daily tempertures from noon to dusk. Dusk may be a better method, but you need noon to compare with the records picked up before you shifted.
If you compare the core PCE deflator and the core
CPI what you find is that the essential difference is that the PCE deflator does not include housing. Otherside, there is no significant difference.
The PCE deflator is better than the CPI, the Fed says, mainly because it better accounts for the fact that, as prices of goods and services change, people’s spending habits change. For example, if apple prices increase, people tend to buy fewer apples but more oranges. (Improvements to the CPI in recent years have moved it in this direction, but it continues to track a fixed basket of goods and services, while the PCE deflator tracks a variable basket.)