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Inflation Then; Inflation Now

March 22, 2011 – Comments (1)

Board: Macro Economics

Author: charliebonds

Inflation spooked the nation in the early 1980s. It surged and kept rising until it topped 13 percent. These days, inflation is much lower. Yet to many Americans, it feels worse now. And for a good reason: Their income has been even flatter than inflation. Back in the '80's, the money people made typically more than made up for high inflation. In 1981, banks would pay nearly 16 percent on a six-month CD. And workers typically got pay raises to match their higher living costs. No more.

Actually, the situation is worse than the writer suggests, for two reasons.
(1) The method now used to report inflation isn’t the same as that used in the early ‘80’s (and before).
(2) Public participation in securities markets has greatly increased. But the public’s ability to capture returns has decreased.

Let’s consider each of those points separately. The BLS reports the level and direction of consumer price inflation through its various indexes: CPI-W, CPI-U, etc. Those indexes are weighted baskets of goods and services. It has to be assumed that the BLS’s tracking is open, honest, and scrupulous. The numbers they report are the same that anyone who uses the same formula would report. Therefore, presently reported CPI is a consequence of only one thing: how price changes are being measured. If the method is changed, then the numbers will change. To see how this is so, take a look at the linked chart which plots the CPI using present-day methods versus pre-1982 methods. So, will the “real” CPI please stand up?

BRRRZZZP! Wrong question. Neither method produces ‘wrong’ answers. Neither method produces ‘right’ answers. Both methods are just formulas that produce answers. But if a writer is trying to argue that middle-income families are being squeezed in a low-inflationary environment compared to earlier years of higher inflation, he/she should have used the same method to measure inflation in each instance. (Dang. There’s that naughty ‘should’ word again that Wendy so much objects to.) So the situation actually seems to be this. Let’s grant the writer his or her point that wages increases are in a deflationary cycle. (That’s economic double-speak for the fact that wages increases aren’t increasing as fast as they used to.) However, consumer price increases are in an inflationary cycle, which is just more economic double-speak for the fact that the rate of price increases is increasing. That’s the reason inflation is a squeeze, no matter its actual level.

My second point is this. By and large, the democratization of securities markets has been a good thing. The barriers to entry have been lowered, and the tools that might make success possible have become more readily available. With that democratization (and the increasing globalization of markets) has come increased competition for profits. Reflect on your own experience. In the mid ‘90’s, even dart throwing secured fabulous profits. These days, it takes constant study and persistent effort to pull better than average money out of markets, and the average of what is possible has been lowered to more historical norms. The net result is that investors have to work harder, and they obtain less.

What could be/should be done?
(1) Stop reading the endless articles (such as this one) that pretend to offer macro-economic analysis, but are really just commentary on commentary on commentary. (When is the last time you read a piece of genuinely-originally, genuinely-important macro-economic research?)
(2) Start doing your own tracking and interpreting of the economic facts that are important to you. (Your own numbers are the only numbers you can trust.)
(3) Set up an action plan and then actually follow it. (Coulda/woulda/shoulda doesn't cut it. To an extent most of us fail to grasp, our economic destiny is within our own hands. Time spent reading the analysis of others is time wasted.)

You are your own best macro-economist, and you need to trust your own judgment.

Charlie