Kurt Brouwer at Fundmastery joins PIMCO’s Bill Gross in arguing that the government’s current method of calculating inflation systematically understates it–especially relative to the rest of the world.
Like Gross, Brouwer argues that US inflation is understated because the BLS adopted 3 key practices that most of the rest of the world didn’t and which tend to skew inflation downward. These are:
- Quality Adjustments: A TV today may be more expensive than one 10 years ago, but it’s also a better TV: the picture is in HD, you get more channels, etc… The Bureau of labour Statistics tries to adjust for this in its calculation. Many foreign countries, however, don’t. (And we didn’t used to).
- Housing Adjustments: The BLS calculates inflation in the housing market using a measure called Owner’s Equivalent Rent (OER), which surveys home-owners to measure what they would have to pay to rent the same homes. Historically, house prices have appreciated three times as much as OER.
- Product Substitution: The BLS assumes some product substition. For example if steak prices rise substantially, the BLS will moderate this price increase by assuming that some consumers will switch to inferior products, like hamburger. This may be a reasonable adjustment in some cases, but it isn’t always.
Whether these adjustments are reasonable is open to debate. But the rest of the world is using a different methodology, and back in the horrific stagflation days, we used a different methodology. Brouwer contends that U.S. inflation is understated compared to the rest of the world by at least 1%.