April 2013 Index

May 30, 2013

Government Inflation Data May Show Prices Are Lower; the Prices of Basic Essential Needs are Not

In countries around the globe, the April 2013 official inflation data tended to show falling inflation rates. In the U.S., the official data showed consumer prices as measured by the Consumer Price Index (CPI) actually

declined 0.1 percent during the month. However, when we measure the prices of certain food, clothing, shelter, and energy components in our Guild Basic Needs IndexTM, we see that the prices of items that people have to consume every day actually rose about 0.8 percent. Over the last 12 months our GBNI is up about 9.4 percent while the CPI is up a mere 1.1 percent.

We have often discussed how the federal government — which makes hundreds of billions in payments that are based on its own calculations of inflation — would like those calculations to show a lower number. That being said, there are different agencies within the government that calculate inflation. The popular CPI is calculated by the Bureau of Labor Statistics (BLS). The government’s Bureau of Economic Analysis (BEA) also calculates inflation rates. In 1996, the BEA adopted a chain weighted price index. Chain weighting refers to the process of continuously updating the index to reflect spending patterns and substitution. Often this substitution lowers the weight of higher priced items and replaces them with lower priced replacements. In 2002, the BLS also adopted chain weighting in it CPI, but the methodology is different.

In general, analysts agree that chain weighting lowers the cost of living calculation; some say it reduces the inflation rate by about 0.25 percent per year. The various measures have usually been tracking in a similar

pattern, but recently, the government’s various inflation calculations are starting to diverge. The BEA’s chain weighted Personal Consumer Expenditure (PCE) — which is closely tracked by Ben Bernanke and the Federal Reserve — has dropped considerably in recent months while the CPI data has been more stable. Nonetheless, both measures are well below the Fed’s 2 percent inflation target.

Since the Federal Reserve, which is actually trying to create rising inflation, is watching the lower of the two indices, it looks like the talk of tapering the bank’s asset purchases or an end to QE are premature. We expect more QE in the future. We also expect rising prices in the cost of basic essential needs in the future… actually, we don’t have to wait for that. It is here now.