Wednesday, July 23, 2014

How and Why the CPI Was Destroyed as an Accurate Measure of Price Inflation

By John Williams of Shadowstats

In the early-1990s, political Washington moved to change the nature of the CPI.  The contention was that the CPI overstated inflation (it did not allow substitution of less-expensive hamburger for more-expensive steak).  Both sides of the aisle and the financial media touted the benefits of a “more-accurate” CPI, one that would allow the substitution of goods and services. 

The plan was to reduce cost of living adjustments for government payments to Social Security recipients, etc.  The cuts in reported inflation were an effort to reduce the federal deficit without anyone in Congress having to do the politically impossible: to vote against Social Security.  The inflation-calculation changes had the further benefit to government fiscal conditions of pushing taxpayers artificially into higher tax brackets, thus increasing tax revenues.  The changes afoot were publicized, albeit under the cover of academic theories.  Few in the public paid any attention. 

Katharine G. Abraham, then commissioner of the Bureau of Labor Statistics, laid out her recollections in an August 1996 paper:
Back in the early winter of 1995, Federal Reserve Board Chairman Alan Greenspan testified before the Congress that he thought the CPI substantially overstated the rate of growth in the cost of living.  His testimony generated a considerable amount of discussion.  Soon afterwards, Speaker of the House Newt Gingrich, at a town meeting in Kennesaw, Georgia, was asked about the CPI and responded by saying, ‘We have a handful of bureaucrats who, all professional economists agree, have an error in their calculations.  If they can’t get it right in the next 30 days or so, we zero them out, we transfer the responsibility to either the Federal Reserve or the Treasury and tell them to get it right.’[v]

A further comment was noted in a 2008 San Francisco Chronicle article, “In the 1990s, for example, Republicans wanted to make changes in calculating inflation along the lines recommended by a special commission, including more use of quality adjustments.  By lowering the official inflation rate, such changes promised to reduce the annual cost-of-living adjustments for Social Security and other federal programs.

[Katherine] Abraham, the Clinton bureau [of Labor Statistics] commissioner, remembers sitting in Republican House Speaker Newt Gingrich’s office: 
‘He said to me, If you could see your way clear to doing these things, we might have more money for BLS programs.’  [vi]

Federal Reserve Chairman Alan Greenspan and Michael Boskin, then chairman of the Council of Economic Advisors, were very clear as to how changing or “correcting” the CPI calculations would help to reduce the deficit.  As described at the time by Robert Hershey of the New York Times

“Speaker Newt Gingrich, Republican of Georgia, suggested this week that fixing the [CPI] index, with its implications for lower spending [Social Security, etc.] and higher revenue [tax bracket adjustments], would provide maneuvering room for budget negotiators …” [vii]
“Alan Greenspan, chairman of the Federal Reserve, is among the other Government officials who have spoken optimistically about financial benefits of a more accurate [CPI] index …”[viii]

“[E]conomists believe one of the most important [CPI upside biases] is when consumers shift their buying patterns in response to changing prices, substituting one product for another.  The [CPI] index is based on a fixed market basket of goods and services.  But, for example, if the price on an item like steak gets too expensive, consumers may switch to hamburger.” [ix]
The Boskin Commission Report, December 4, 1996, actually used steak and chicken for its substitution example.  The examples used in arguing for changing the CPI clearly were tied to prices rising and resulting consumer demand shifting to a lower-quality product.  Simply put, that was the destruction of the cost-of-maintaining-a-constant-standard-of-living concept and was the primary consideration of those seeking to change the CPI, although other issues would come into play.  The drive here was as to get a lower inflation reading, irrespective of whether the data were “more-accurate.”

The above originally appeared as part of No. 515—PUBLIC COMMENT ON INFLATION MEASUREMENT AND THE CHAINED-CPI (C-CPI). You can subscribe to Shadowstats here.


  1. At this point you have to wonder what they're going to do when people run out of things to substitute?

    How many people have to be eating Mac and Cheese every night of the week before they can't substitute their way out of this any longer?

    And now the FDA is moving to acknowledge that they've been covering up the use of anti-biotics in meat being disastrously harmful to people, and going to ban it. If you think the prices for meat in this country have been going up quickly before, just wait, it's about to get much much worse when they can't fatten up animals using anti-biotics any more.

    We're already to the point where even eating only meat and veggies in most restaurants will make you sick because the quality is so low, and the size of everything is half what it used to be. (i.e. Leddy's bacon went from a pound for $1.99 in 2008 to 12 ounces for 2.99 in 2013 to 10 ounces for 3.49 in 2014 to now $4.99 for 12 ounces. They've given up on trying to hide inflation by filling their packaging less and less and are now just passing on the massive cost increases directly and they're not alone. Everyone is doing it and it isn't just food.

    Home Depot used to sell a 4x8 1/2" drywall sheet for $7.75 in 2011. They're now $10.25. 2x4x96s are now almost DOUBLE what they were in 2011... oh and they rounded off the corners of the wood more because they use that fiber to make wood pellets to heat your house so they can make money from the shavings... oh and all dimensional lumber is an 1/8th of an inch narrower now than it used to be. 5/4x6 deck boards in 2011 won't match up with ones bought in 2012 because they're a 1/16th of an inch wider, and now those 2012 boards won't match up with 2014 boards for the same reason. We're to the point where a 5/4x6 is really 1" x 5 3/16" and 2x4s are not even structural (1 1/2" x 3 7/16") which drives up the price of construction because you have to build with 2x6s instead which makes the same house either smaller inside or requires more wood on top of the additional cost. Calculate that into the CPI.