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Inflation? Not so much
Posted by: Jon Henke on Wednesday, December 28, 2005

Two months ago, with the Consumer Price Index increasing by 1.2% in September—an annualized rate close to 15%—there was quite a lot of public concern about inflation. I addressed that at the time, noting that the dramatic increase in the Consumer Price Index may not be inflation at all.
If inflation is a general, sustained increase in the price level, then what we saw in September was not a significant increase in inflation.
For one thing, with 90% of the CPI increase in energy, the price increase was "not generalized as we would see with genuine inflation". The CPI increase was, I argued, a change in "supply and demand factors, rather than a decline in the purchasing power of money". Most importantly, I argued that the September jump in CPI was unlikely to be a sustained increase in the general price level.


I think the evidence over the past month has supported this position. Consider November CPI...
The Consumer Price Index for All Urban Consumers (CPI-U) decreased 0.8 percent in November, before seasonal adjustment, the Bureau of Labor Statistics of the U.S. Department of Labor reported today. The November level of 197.6 (1982-84=100) was 3.5 percent higher than in November 2004. ... On a seasonally adjusted basis, the CPI-U decreased 0.6 percent in November.
The dominant contributor to that decline was energy, where price levels declined "a record 8.0 percent in November."

If inflation is a general, sustained increase in the price level, then what we saw in September was not a significant increase in inflation. It was neither general nor sustained. The buying power of a dollar did not change appreciably; we just experienced significant shifts in supply and demand factors.
 
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Retired people cashing their Social Security checks notice that their "cost-of-living" annual increase falls far short of actual price increases.
If we restrict ourselves to that particular demographic, then it’s also relevant to mention that the composition of their "basket of consumer goods" is almost certainly composed of a far higher proportion of medicine and medical care. The price of health care is increasing faster than most other goods and services—though whether that’s a result of inflation, of supply and demand factors, or of new goods and improved quality is probably less clear. In any event, there are two answers here:

1) Social Security benefits may not be increasing as quickly the price level of a typical senior citizens’ basket of goods. But...

2) CPI almost certainly overstates the actual rate of inflation. (and, indeed, the government doesn’t really claim that CPI is a true measure of inflation)
 
Written By: Jon Henke
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