CPI :1st change in 25 years

[imoldernu]

One of the small items that slip under the radar... Nothing really new here, but some stuff you didn't see in the news:

Consumer Price Index (CPI)

Announcements
New Estimation System
Effective with the release of the January 2015 CPI on February 26, 2015, the Bureau of Labor Statistics will utilize a new estimation system for the Consumer Price Index. The new estimation system, the first major improvement to the existing system in over 25 years, is a redesigned, state-of-the-art system with improved flexibility and review capabilities. For more information on this new system, please see How BLS Measures Changes in Consumer Prices.
Chained Consumer Price Index to be Revised Quarterly
Effective with the release of CPI data for January 2015 on February 26, 2015, the Bureau of Labor Statistics will begin quarterly revisions of the Chained Consumer Price Index for All Urban Consumers (C-CPI-U). In addition, a Constant Elasticity of Substitution (CES) formula will replace the geometric mean formula for the calculation of Initial and Interim C-CPI-U indexes. For additional information, please see How BLS Measures Changes in Consumer Prices.

The only thing that I don't like, is the presumed substitution calculation... already in effect, but IMHO not fair...
It's the idea that the new norm will be the measure of CPI... ie. if people don't buy steak because it's too expensive, the the new measurable norm could be hamburger.

The CPI affects me, in IBonds, and in the fees for my Florida community ownership. In the case of IBonds, lowering the food cost basis in the CPI, means that the interest rates are lower than what they would be without the "averaging". The chained CPI has the same effect.

Not a large amount, but, a few dollars here and a few dollars there and......

BTW... if you should go to the first link, there's also a second (recent) link that reviews changes in pension plans. If you're in that column, it may interest you.
Link:http://www.bls.gov/opub/btn/volume-4/a-look-at-todays-pension-equity-plans.htm

 

[gauss]

Maybe I am not reading this correctly, but I do not see the insertion of any substitution calculations into the classic CPI calculation, but rather only chained CPI (C-CPI).

Maybe I have been asleep at the wheel, but I wasn't aware that C-CPI has been adopted yet for any major programs.

I hope that I am right ;-)

-gauss

 

[RAE]

Maybe I have been asleep at the wheel, but I wasn't aware that C-CPI has been adopted yet for any major programs.

I hope that I am right ;-)

-gauss

I'm pretty sure you are correct, Gauss. There was talk a year or two ago of adopting the Chained CPI for Soc. Security payments and federal pensions, etc., but that has not happened (yet, anyway). AARP and the federal employee unions (and other groups) have been strongly opposed to using the Chained CPI, as you would expect.

 

[imoldernu]

Maybe I am not reading this correctly, but I do not see the insertion of any substitution calculations into the classic CPI calculation, but rather only chained CPI (C-CPI).

Maybe I have been asleep at the wheel, but I wasn't aware that C-CPI has been adopted yet for any major programs.

I hope that I am right ;-)

-gauss

I don't pretend to understand all of the numbers, but thought that elasticity of substitution and something called the Giffen Good effect had to do with the averaging down of the CPI, and in effect levels out (retroactively) the published and actionable numbers.

I should stick to stuff I know... like afternoon naps.

 

[gauss]

I don't pretend to understand all of the numbers, but thought that elasticity of substitution and something called the Giffen Good effect had to do with the averaging down of the CPI, and in effect levels out (retroactively) the published and actionable numbers.

I should stick to stuff I know... like afternoon naps.

IM,

No don't stop the posts - Thank you for bringing this to our attention. I missed it even though I subscribe to BLS CPI announcements.

I was freaking out at first after reading your post thinking that they were bringing in substitution into CPI via the back door.

After reading the release, it seemed to my lay reading of it, that the substitution effects were only applied to C-CPI and that is why I made the post to try to clarify this.

Keep the posts coming!

-gauss
"not an economist --but a definite fan of afternoon naps"

 

[Mulligan]

All I know is CPI-U is sitting at 236.119 and has to climb back to par at 238.25 by July or I do not get my COLA. Heat up a bit inflation, I want my COLA. I can switch out the steak with hamburger later if need be.


Sent from my iPad using Tapatalk

 

[audreyh1]

Oil prices are trying to do their part!

 

[ERhoosier]

.......I was freaking out at first after reading your post thinking that they were bringing in substitution into CPI via the back door.

After reading the release, it seemed to my lay reading of it, that the substitution effects were only applied to C-CPI........

There has been substitution in the CPI methodology for some years, albeit not in a clear upfront "substitution calculation". The present US Govt (BLS) CPI methodology does not track the exact same items from the same sources over time. It uses data from their own surveys of what selected consumers actually purchase ("marketbasket" approach).
Consumer Price Index Frequently Asked Questions
So if folks switch buying habits 'cause something gets too expensive then it can affect the specific category's CPI (e.g. switch from national brand to store brand breakfast cereal), drop item down in importance in overall CPI calculation (switch in meat buys from steak to hamburger)- or even out of CPI entirely (like photo film developing).
Main source document for CPI methodology (BLS Handbook of Methods, Chapter 17; linked below) gives a number of more major examples of this over the years- like temporarily eliminating new cars & appliances in 1940's, changing how housing costs are handled (e.g. "rent equivalency" concept in '80's), and a number of periodic changes in specific items tracked.
http://www.bls.gov/opub/hom/pdf/homch17.pdf
And FWIW- CPI does not track rural consumers at all!

So with CPI, like most things in life, YMMV

 

[gauss]

Thanks ERHoosier!

I guess the question in my mind is why are the powers that be pushing for C-CPI (other than it reduces costs) if substitution effects are already being implicitly included in CPI?

The arguments against CPI that I recall were that folks would keep buying things as they became relatively more expensive was not realistic. It sounds like consumer substitution is already being captured in CPI via actual purchase decisions although it may be implicit.

-gauss

 

[imoldernu]

I'm out of my comfort zone on this, but am interested in some of the details that (despite hundreds of charts) seem to me to either be fuzzy or missing.

Perhaps there's some wacko conspiracy theory here, but I am suspect of the way the goverment tracks inflation. The worrisome part is that despite the fact that the CPI has been so low in recent years, the real wages of the middle class has not even tracked that low rate.

I'll throw in the shadow statistics number here, not because I trust these more than the Federal Government, but as an empirical comparison. From the CPI-U, the ten year calculator, 2004 to 2014... the inflation rate was 125%, while the shadow statistics show 150%.
http://www.halfhill.com/inflation_js.html

So here is one place that I question, and someone here may have an answer.

The Market Basket...
First, the Department Store numbers have been omitted in 2013. Probably with good reason, but that mean imputing comparisons from history.

Second... and this one puzzles me... I can't find the consist of the market basket. Some 5 0r 6 years ago, I can remember a listing of the actual items being surveyed... can't remember the specifics, but the market list used items such as 3 pounds of macintosh apples, 2 pounds of flour, 6 oz. of canned tuna, one pound of white bread, 2 lbs of red grapes...one dozen large eggs, 1 lb. of hamburg, 1 lb of sirloin steak.. and similar specifics.

Next, as I recall, the "test" markets were really "urban"... in very large cities, such a Baltimore, Seattle, Fort Worth, etc... The last time I remember, when you could actually see the consist of the basket, and also the actual numbers were available for each item, in each city... I was appalled, and incredulous. In particular, three pounds of apples... Red Delicious... we were paying $1.59... and the urban price in most of the test areas was closer to $2.49. (Lends new meaning to the expression: "comparing apples to apples").

Now, while this seems very picky and unimportant, maybe not so much. So many parts of our financial lives are dependent on the CPI-U, that I'm left to wonder who decides the on the details, and what interests are involved in the decision.

It is difficult to find other inflation comparisons, as almost all statistics are based on this number.

I suppose this will get tossed in the fry pan with the bacon. Sobeit... Except for a few extra IBond variable interest dollars, I'm not affected, but overall, between Pensions, Entitlements, SS, wages, and CPI based financial transactions, it's left to wonder whose ox is being gored.

Just trying to understand.

 

[donheff]

I think they are trying to get the chained CPI in as good a shape as they can on the assumption that it will sooner or later take over as the basis for SSA and other COLA's.

 

[Independent]

I'm trying to understand this, too. My reading of the OP announcement is that it includes changes to two different series.

The CPI-U (and probably the CPI-W, but they didn't say), which is the one that appears in so many Federal laws and regs, is going to a new, paperless system. It is also getting some changes to the way prices are "imputed" when a particular item doesn't happen to be on the shelf.

The Chained CPI, C-CPI-U, which is not used for all these laws, is getting a revised method of calculating substitution. It's going from a "geometric" formula to a "constant elasticity of substitution" formula. Constant elasticity of substitution - Wikipedia, the free encyclopedia

As I understand it, the CPI-U has never assumed that consumers substitute chicken for beef, those are different categories. It does assume that consumers will substitute Gala apples for Red Delicious (and back again) because those are in the same category. This does not change that rule for the CPI-U.

However, this is important to us retirees because some people, including one presidential candidate, have proposed replacing the CPI-W with the C-CPI-W for SS increases. The chained calculation always gives a lower number, I think the SS actuaries assume a 0.3% annual difference. If that happens, then we start to care about the C-CPI-W.

 

[Amethyst]

When does the "substituting" bit come in, exactly? I am old enough to recall people talking about substituting hamburger for steak during the inflationary 1970's. By the 1980's (still inflationary) they would have been "substituting" dog or cat food. Did everyone go back to steak and reset the calculator at some point?

I realize it sounds like I'm being flippant, but I'm genuinely puzzled about this.

Amethyst

I
As I understand it, the CPI-U has never assumed that consumers substitute chicken for beef, those are different categories. It does assume that consumers will substitute Gala apples for Red Delicious (and back again) because those are in the same category. This does not change that rule for the CPI-U.
.

 

[Options]

I'm pretty sure you are correct, Gauss. There was talk a year or two ago of adopting the Chained CPI for Soc. Security payments and federal pensions, etc., but that has not happened (yet, anyway). AARP and the federal employee unions (and other groups) have been strongly opposed to using the Chained CPI, as you would expect.

Are you thinking of this?

Obama Budget Said to Drop ‘Chained CPI’ – AARP

You're right. It wasn't adopted. I've not heard of any changes to any major programs either.

 

[Running_Man]

When does the "substituting" bit come in, exactly? I am old enough to recall people talking about substituting hamburger for steak during the inflationary 1970's. By the 1980's (still inflationary) they would have been "substituting" dog or cat food. Did everyone go back to steak and reset the calculator at some point?

I realize it sounds like I'm being flippant, but I'm genuinely puzzled about this.

Amethyst

http://www.advisorperspectives.com/dshort/commentaries/Real-Median-Household-Income-Growth.php?referrer=feed43.com

As what is done is to compare price increases to what individuals purchase and the BLS tends to substitute for what is purchased for price inflation the recorded CPI--- the CPI index will closely follow the median national increase in income over time, since income determines what they measure. As median household income increases then the government will state that inflation is increasing. There are a lot of complicated and highly paid analysts trying to determine what this is, and comment on unexpected monthly changes but in the end of several years that is what is being measured as inflation.

 

[imoldernu]

About the "market basket".
If the consist is posted somewhere, I couldn't find it. The actual items and the "shopped" prices used to be published. When they were avaialble, I would argue that the basket was not representative, as almost all of the items were basic foods... ie, milk, rice, flour, vegetables, sugar, meats, bran flakes etc, but not processed foods, as in TV dinners or frozen meals, Pizza and the current plethora brands and variety of prepared foods that make up the larger part of the weekly food basket for most people.
The other part... Department store numbers apparently are no longer included in the CPI-U calculations.

Eventually the question comes down to what all of this means to you and me.
Not to put too fine a point on this, but if the CPI is used to establish the interest rates on government bonds, how does this affect us over the longer time period? I think Don Heff is right about the chained CPA part, but feel like the math and the obscurity of the CPI process is over my head. I wonder if my voting representatives understand it all.

The government explanation goes back to 2004, and deserves reading. even though the references to the department store pricing comparisons is no longer meaningful. The first few pages outline the very wide breadth of the index on government policy, and specifically references that it (before chained CPI was a factor) is used to lower government expenditures on Social Security and the like.
http://www.bls.gov/cpi/cpifaq.pdf

I've spent too much time on this and have come to the conclusion that it's over my head, so... back to the day job.

 

[imoldernu]

Quick thought before leaving the subject..

After looking at the CPI, the question naturally comes up... How do I fit in? Besides looking at the inflation numbers... How much do we earn, how much do we spend, and what do we spend it on?

The Buseau of Labor statistics DOES give numbers on the Average
here:
CONSUMER EXPENDITURES--2013
Since most members keep some track of their own budgets, this chart may provide a baseline to see how you campare to the statistical average. In my own case, the numbers are surprisingly close to the chart. Well under the transportation costs and meals away from home, but almost right on in the housing cost, despite owning my FL and IL lakefront retreat in addition to my regular home. All we're missing is .5 persons amd 1.3 earners.
oops... and almost 30 years.

How do you make out with the numbers?

 

[Amethyst]

What's a "consumer unit"? A person? A family of 4?

O never mind...I see it is at the bottom. That weird two-and-a-half people, again.

 

[Walt34]

That weird two-and-a-half people, again.

The only thing I can figure on that is that there must be an awful lot of women out there who are 4.5 months pregnant....

 

[Amethyst]

Right. Can you explain the 1.3 earners? Child labor? Grandma taking in part-time washing?

Also, are 2 people on pensions considered "earners"?

Amethyst

The only thing I can figure on that is that there must be an awful lot of women out there who are 4.5 months pregnant....

 

[ERhoosier]

I guess the question in my mind is why are the powers that be pushing for C-CPI (other than it reduces costs) if substitution effects are already being implicitly included in CPI?

The arguments against CPI that I recall were that folks would keep buying things as they became relatively more expensive was not realistic. It sounds like consumer substitution is already being captured in CPI via actual purchase decisions although it may be implicit.

-gauss

IMHO- Push for C-CPI is that it gives an "above board" way to adjust the final inflation number used in calculating benefits. The substitution effects are buried in the methodology so perhaps less easy to precisely control.

In the end I basically agree with Running_Man that measured overall inflation is typically tied to median income. BLS tracks what folks actually spend on stuff, and folks tend to spend more as their income rises.

 

[Independent]

When does the "substituting" bit come in, exactly? I am old enough to recall people talking about substituting hamburger for steak during the inflationary 1970's. By the 1980's (still inflationary) they would have been "substituting" dog or cat food. Did everyone go back to steak and reset the calculator at some point?

I realize it sounds like I'm being flippant, but I'm genuinely puzzled about this.

Amethyst

From the BLS website:

To begin, it must be stated unequivocally that the BLS does not assume that consumers substitute hamburger for steak. Neither the CPI-U, nor the CPI-W used for wage and benefit indexation, allows for substitution between steak and hamburger, which are in different CPI item categories.12 Instead, the BLS uses a formula that implicitly assumes a degree of substitution among the close substitutes within an item-area component of the index. As an example, consumers are assumed to respond to price variations among the different items found within the category “apples in Chicago.” Other examples are “ground beef in Chicago,” “beefsteaks in Chicago,” and “eggs in Boston.”

Hence may statement that the BLS assumes consumers will shift between Gala and Red Delicious apples as relative prices change, but not between chicken and beef.

Download the pdf here: Addressing misconceptions about the Consumer Price Index : Monthly Labor Review : U.S. Bureau of Labor Statistics