Inflation And Lies

[greenalien]

I'm sure that I'm not alone in viewing both the CPI and RPI 'official' rates of inflation as being unrealistically low.

I think the main reason for this is political pressure in selecting how these figures are determined, in order to keep wage demands down.

Given the boom in house prices over the last decade, it's unbelievable that neither of these indices include housing costs - if they had done so, the BOE would have had to put interest rates up higher, and sooner, than they did, thus averting the house price bubble of the last few years.

So - who, exactly, decides how these indices are set up and what is their justification? And what is the real rate of inflation - I think we should be told!

[laura122]

I'm sure that I'm not alone in viewing both the CPI and RPI 'official' rates of inflation as being unrealistically low.

I think the main reason for this is political pressure in selecting how these figures are determined, in order to keep wage demands down.

Given the boom in house prices over the last decade, it's unbelievable that neither of these indices include housing costs - if they had done so, the BOE would have had to put interest rates up higher, and sooner, than they did, thus averting the house price bubble of the last few years.

So - who, exactly, decides how these indices are set up and what is their justification? And what is the real rate of inflation - I think we should be told!

I ve been lurking on this web site for quite a while now and one thing which I ve been burning to understand is exactly how Gordon Brown and King can still claim that inflation is at 2.5%.

Does anyone know how the basket is calculated?

Oil has gone up 70% (I ve got Bloom berg Terminal) and can see the year on year change, food is up significantly, mortgages are going up and yet inflation is still 2.5% this month.

What does this means for all of us?

That if you bought 100 pounds of goods from Waitrose this time last month and revisited Waitrose this month you would pay 100 pounds + (2.5 / 12 - This being the annual inflation change divided by the number of months). That means this months shop should be about 20p more

Now we all know thats not true - BUT WHAT WOULD IT TAKE / WOULD NEED TO HAPPEN FOR THE GOVERMNEBNT INFLATION FIGURES TO HIT 6%?

A 6 fold increase in oil perhaps?

[Kootenai Brown]

Differences between RPI and CPI.

Basically CPI is even more flawed than a flawed measure of inflation. Notice the recent difference between CPI and RPI due to differences in weights. Convenient eh?

[yawnIHateSundays]

So - who, exactly, decides how these indices are set up and what is their justification? And what is the real rate of inflation - I think we should be told!

The government, of course. Keeping perceived inflation low allows them to keep the public sector wage bill down - and also helps with pensions, benefits etc. The lie is starting to crack though as more and more people realise that inflation isn't 2.1% like the good old BBC keep spouting. What's the real rate? Closer to 10% IMHO.

[greenalien]

Another good article on inflation

So - who, exactly, decides how these indices are set up and what is their justification?

The government, of course.

Yes, but who in the government? Let's have some transparency here!

Another thought - if a bank could show that it based its lending policy on the government inflation figures, and these were shown to be false, would it not have a good case to sue the government for compensation for its losses? ( Cue sound of floodgates opening...)

[A.steve]

I ve been lurking on this web site for quite a while now and one thing which I ve been burning to understand is exactly how Gordon Brown and King can still claim that inflation is at 2.5%.

Does anyone know how the basket is calculated?

CPI is 2.5% - but there is not a single metric for inflation, or even a single notion of inflation. For me inflation has been running at >12% per year as I want to buy a house.

http://en.wikipedia.org/wiki/Consumer_price_index

http://www.statistics.gov.uk/articles/nojo...basket_2007.pdf

In 2007, I thought that maybe there was dishonesty in the reporting of statistics. I researched in depth, and have posted here about that - in length. I do not believe the statistics to be falsely reported - but I do believe that the vast majority of people misunderstand their meaning - as you so adequately demonstrate.

CPI is a weighted geometric mean. You could only use multiplication with 2007 prices to arrive at 2008 prices in the super market if the way your bill was calculated was by multiplying the prices of items together. RPI is slightly more appropriate in this context... but, even then, one has to take into account the lag of weights and the fact that RPI does not only target essentials, but also luxury items... where - for plasma TVs, for example, the price has tumbled. Both RPI and CPI under-estimate what people think inflation to be.

It is interesting to note that CPI is maximised when price rises are uniform across all goods/services in the basket relative to weights. There is no such effect with RPI. For example if wings and wangs cost £1 each in 2007, The geometric mean of their price increases is maximised if the rises are uniform. So, if wings and wangs each cost £2 in 2008, a wing and a wang cost £4 - or 100% increase in price. The geometric mean of prices is SQRT(2*2) =2... However, if wings halve in price, but wangs quadruple in price, a wing and a wang cost £4.50 - but the geometric mean is SQRT (0.5*4)=1.41 - i.e. a lower rate of inflation but higher year on year costs. I hope this helps. :-)

I believe the statistics... I think they are honestly and diligently compiled. I think the statistics are misused to spin to the media (as most people don't even understand the difference between a geometric and arithmetic mean, this is like shooting fish in a barrel.) The fiscal target to which the Bank of England has been required to set interest rates (and monetary policy) over the past decade have been severely flawed. In this fiasco all fingers point to Brown, and this is why I anticipate that the global credit crunch will more severely affect the UK than the rest of Europe.

Edited March 28, 2008 by A.steve

[VedantaTrader]

Gordon Brown changed the inflation measure to the CPI from the RPI a few years ago. The rpi is still not a great measure. Its 50% below real inflation, but better than 80%.It was controversial at the time. However, you usually find that we are bombarded with so much new "news" through media that actions that have potentially deadly consequences down the line are forgotten about as new "news" covers it up. Peoples attention spans are so short that they qucikly forget the news from last week, never mind 5 yearsa ago.

One other thing just comes to mind...Gordon Browns decision to sell and loan out all Britains gold reserves. I am a true believer in chaos in the markets. That "small" actions at the time can lead to catastropic ramifications years later. These two small decisions, namely changing the inflation measurement and selling the gold reserves, now are causing havoc.

the consequences of getting inflation wrong has lead to artificial interest rates, record debt, bankruptcy and who knows what else. What will the ripple effect of the present cause in 2 years time or 5 years time? Infact, I dont think they got inflation wrong. I reckon Brown knew what he was doing, for short term gain. I would not say Brown is intelligent...I would say he sleekit and cunning. There is a difference.

Edited March 28, 2008 by VedantaTrader

[Optobear]

CPI is 2.5% - but there is not a single metric for inflation, or even a single notion of inflation. For me inflation has been running at >12% per year as I want to buy a house.

It is interesting to note that CPI is maximised when price rises are uniform across all goods/services in the basket relative to weights. There is no such effect with RPI. For example if wings and wangs cost £1 each in 2007, The geometric mean of their price increases is maximised if the rises are uniform. So, if wings and wangs each cost £2 in 2008, a wing and a wang cost £4 - or 100% increase in price. The geometric mean of prices is SQRT(2*2) =2... However, if wings halve in price, but wangs quadruple in price, a wing and a wang cost £4.50 - but the geometric mean is SQRT (0.5*4)=1.41 - i.e. a lower rate of inflation but higher year on year costs. I hope this helps. :-)

I believe the statistics... I think they are honestly and diligently compiled. I think the statistics are misused to spin to the media (as most people don't even understand the difference between a geometric and arithmetic mean, this is like shooting fish in a barrel.) The fiscal target to which the Bank of England has been required to set interest rates (and monetary policy) over the past decade have been severely flawed. In this fiasco all fingers point to Brown, and this is why I anticipate that the global credit crunch will more severely affect the UK than the rest of Europe.

A.

I am not sure that is right. I think the arithmetic vs geometric mean business is a bit of red herring.

The geometric mean is applied to the calculation of the increase of a single item in the inflation basket. (month on month, or quarter on quarter) to give an increase in that item. However the items are averaged across the basket (with appropriate ratings) using a simple arithmetic averaging. So, in your example, the increases in Wings and Wangs aren't multiplied together at any point. They are added using a weighting. This is all set out in great length here:

http://www.statistics.gov.uk/downloads/the...ical_Manual.pdf

section 9.51

The main issue with CPI and RPI is that it includes all sorts of expenditure that we don't often see, but is quite substantial. So I spend a lot of money on food and fuel which is going up fast, but also I purchase clothes, TV, fridge, etc. Most of those are dropping, so we while we are currently seeing our weekly regular spend shooting up, but it is compensated by dishwashers and cars, etc. staying lower. I think that psychologically inflation feels higher because we don't realise how those other goods are changing (or not changing) in price. So I only look at the prices of washing machines every few years, and tend to discount the significant effect of their staying low in price on my overall annual spend.

Optobear

[A.steve]

I am not sure that is right. I think the arithmetic vs geometric mean business is a bit of red herring.

Good find with the technical manual for CPI - lots of details there for the technically inclined. I've added it to my reference library.

I admit that my example was overly simplistic - however the point I was trying to make was fairly simple - i.e. A geometric mean is not interchangeable with an arithmetic mean.

CPI does use a geometric mean (see page 83 of the manual) though I readily admit that my back-of-a-postage-stamp calculation was an illustration of a geometric mean and not of CPI.

[Justice]

Inflation And Lies, Could bad statistics be the cause of the credit crunch?

Wot you mean pretend inflation is low when every man and his dog is borrowing money and spending it and then when they all run out of credit move on to pretend inflatuion is rampant and put interest rates up ? never

it's a case of who blinks first and do remember your average banker is much more frindly with MP's than he is with you.

bad statistics is a result of goverment fraud but that's better than the treason they commit almost on a weekly basis.

[Bloo Loo]

As mentioned to gom on another thread, I'm intrigued about the knock-on effect of flawed or understated inflation measures on other statistics...namely gdp and consumer spending.

I'm going to look into these a bit more.

Vedanta Trader seems to think that if inflation was correctly reported as per Capital Economics says, then gdp would actually be negative. i.e. we would already be inrecession.

And as for consumer spending holding up surprisingly well...is that prices? Note: an explanation was that we were spending more on food when it was last issued.

So you can see, the ramifications on a whole host of stats are serious and if these are wrong, then you'll make the wrong decisions.

It matters not a jot to the MARKET however the situation is reported.

The dead hand of the market responds only as it must by actual circumstances. It NEVER reads stats.

[Bloo Loo]

I don't agree. If inflation were reported higher, credit would be more expensive. That'll give the market a dead leg.

I beleive rates are heading up as we speak.

rates up and availability down as well, all making buying things more expensive- this is the market, not reactions to a set of figures, doing the task it is forced to do.

Fed cuts, the market says no.

Edited March 28, 2008 by Bloo Loo

[sikejsudjek]

CPI is a joke. Interest rates have been set too low for a long time, to keep the boom going. As a result the bust phase will be longer and deeper than it might have been.

[A.steve]

As mentioned to gom on another thread, I'm intrigued about the knock-on effect of flawed or understated inflation measures on other statistics...namely gdp and consumer spending.

Collaborate on GDP?

I am fascinated by GDP and find it entirely incomprehensible. If you can find a credible explanation of how it is calculated (in, say, 30 pages - with minimal assumed economic knowledge) then I'd *LOVE* to read it.

Everything I've read seems to either be a gross over-simplification or spectacularly detailed in a specific area - and entirely impenetrable to myself.

GDP is extremely important, I think, because this is how the IMF/World Bank rate the creditworthiness of countries - which almost certainly has a huge impact on their exchange rates.

[Bloo Loo]

Damn. Good point.

Edit: we could save a lot of money and not measure anything

I watched an internet lecture on the BUST part of the economic cycle. There was a link to it here a few days ago. I learnt about a theory that explains what trying to fool the market actually does.

It explained they can delay things, but the energy pent up in the preceding boom has to go somewhere, and keep reinforcing the boom only makes the blowout harder to bear, while trying to smooth out and defend against a bust in progress only makes it longer and deeper.

[A.steve]

I watched an internet lecture on the BUST part of the economic cycle.

Link?

[mightytharg]

I'm sure that I'm not alone in viewing both the CPI and RPI 'official' rates of inflation as being unrealistically low.

I think the main reason for this is political pressure in selecting how these figures are determined, in order to keep wage demands down.

Given the boom in house prices over the last decade, it's unbelievable that neither of these indices include housing costs - if they had done so, the BOE would have had to put interest rates up higher, and sooner, than they did, thus averting the house price bubble of the last few years.

So - who, exactly, decides how these indices are set up and what is their justification? And what is the real rate of inflation - I think we should be told!

Whoa. Hold your horses there pardner...

These inflation rates are used to decide how much to pay the filthy money-grabbing public sector parasites for their pensions. The last thing we need is accurate inflation figures.

[greenalien]

If inflation were reported higher, credit would be more expensive.

...so if inflation had been reported higher for the last 10 years, credit would have been more expensive and the HPI bubble may not have happened...

[Bloo Loo]

Link?

lucky i bookmarked it

http://video.google.com/videoplay?docid=-2...rassimir+petrov

[Bloo Loo]

...so if inflation had been reported higher for the last 10 years, credit would have been more expensive and the HPI bubble may not have happened...

Thats right, but the market, like a machine does not read any stats, it just reacts.

Attempts by governements to mislead the market always end in failure, so the misreporting of a metric has no result other than the inevitable at the end of the day.

[babesagainstmachines]

It's ridiculous to suggest that the market doesn't react to statistics. Of course it does!! The market is just a load of people making/buying/selling stuff, and people most certainly DO react to stats.

[greenalien]

CPI is a weighted geometric mean

..doesn't 'weighted' mean 'scaled by some guessed-at factor'?

[A.steve]

..doesn't 'weighted' mean 'scaled by some guessed-at factor'?

It means that the relative price of carpet affects the CPI far greater than the relative price of postage.

In 2007, the weight for "Postal services" was 1, while the rate for "Carpets and other floor coverings" was 6.

http://www.statistics.gov.uk/articles/nojo...hts_article.pdf

I recommend the beginning of this article for an explanation of how the weights are established...

Edited March 28, 2008 by A.steve

[A.steve]

lucky i bookmarked it

http://video.google.com/videoplay?docid=-2...rassimir+petrov

Stunning lecture. Very up-to-date and relevant too.

Many thanks. Plus... there appear to be lots more associated material I'd like to watch. I started to read the book he recommended last night.

[libspero]

We always discuss inflation but that is not the only measure of the health of an economy.

Government debt: Under estimated due to PFI

Unemployment:

More people now classified as long term sick (many on the take)

those with too many savings or who can't be bothered to claim

Those in education (including those pushed into worthless short courses to take them off the figures)

In fact pretty much any possible reason that can be found for taking them off the stats

Anyone think of any more?

Edited to add: Not deliberately trying to hijack.. simply pointing out other bad stats could also be to blame

Edited March 28, 2008 by libspero