Follow-up on CPI

By Matthew Hougan

Regarding the CPI, yes, I did a big write-up on it in the January 2005 issue of the Journal of Indexes. My article was called "CPI Two-Step," and it's one of the better pieces I've done. You can find it here.

The thing about the CPI is that it's easy to brush off the inconsistencies. The government uses a higher weight for cigarettes than prescription drugs. Ha Ha.

But the CPI is hugely important. In fact, it's the single most important index in America.

The government uses the CPI to make cost-of-living adjustments to Social Security, military pensions, federal pensions, food stamps, school lunches, tax brackets, TIP payouts and more. The difference of 0.5% one way or the other is measured in the billions of dollars.

Take healthcare. Healthcare represents 6% of the CPI, yet makes up 16% of our GDP. Riddle me that. And according to the National Coalition on Health Care, healthcare costs jumped 6.9% in 2007—more than twice the official rate of inflation. If you tripled the weight of healthcare in the CPI, bringing it even with reality, that alone would have a major impact on the final CPI.

Look at it another way: I'm 31 years old. Assuming it still exists, I'll get my first Social Security payment in 37 years. Let's suppose that the CPI runs 3% per year until then, but it understates "real" inflation by 1% a year. Whammo-presto, my check is worth 29% less in today's dollars. If the CPI understates inflation by 2%, my check loses 50% of its value.

I better increase my contribution to the 401(k) plan...

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This article has 3 comments:

• buyitcheap

  May 14 08:17 AM
  shadowstats.com shows the real inflation rate - and it's closer to 5-6%. And no, you won't get S/S. Neither will I (39 yrs old).
• '70s
  stagflation
  survivor

  May 14 09:35 AM

  My Website
  Actually, if inflation were calculated using the same methods in place before 1982, the current rate is approaching 12%. The chart on the ShadowStats home page uses the BLS calculation methods from around 1990. For a look at inflation as calculated using the original method (pre-1982), see this ShadowStats chart (scroll down to the CPI Data Series):
  
  www.shadowstats.com/al...
  
  For the big picture of inflation going back to 1915, see this link:
  
  dshort.com/inflation/i...
  
  Frankly, I think the BLS was justified in some of the modifications to their inflation calculation algorithm. But the downside is that it obscures the degree to which today's economy is beginning to resemble the grim stagflation of the '70s and early '80s.
  
• bearfund

  May 14 11:55 AM
  Why bother with that 401(k), either? Unless it's full of Norwegian kroner, gold, oil, food, shipping, and railways, it's going to lose value just as rapidly as anything else - maybe more so. 401(k) choices vary greatly from one company to another, but if all yours has are index funds and "target retirement" crap, you'd be better off using taxable accounts to fund your retirement. Plus, who wants to wait until he's 60 to retire?!

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