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Chained CPI

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dude6935 posted on Sun, Dec 23 2012 3:02 PM
I'm out of town for the holidays and I heard the GOP leadership wants to move to a new CPI calculation that is"chain weighted". It sounds like a worse CPI to me. How is it different? Is it better or worse?
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Gero replied on Sun, Dec 23 2012 9:46 PM

CNNMoney: The government currently measures price increases using the Consumer Price Index, which tracks a broad basket of consumer goods. That measure is also used to determine increases in tax brackets and cost-of-living adjustments for retirees receiving Social Security benefits. But some critics say the government is overstating inflation. In reality, when prices rise, consumers turn to alternatives instead of paying more. So for example, if prices rise significantly on beef, they may buy chicken instead. Enter "chained CPI," a separate measure that accounts for such substitutions, and therefore paints what some call a more realistic picture of inflation's impact on consumers. President Obama is proposing the government use chained CPI to calculate things like Social Security cost of living increases and income tax brackets.

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Wheylous replied on Sun, Dec 23 2012 10:05 PM

Please tell me - can the government really measure CPI correctly to one decimal digit? That seems like ridiculous precision.

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... the government is overstating inflation.

QFT.

That is the problem exactly. Dear goodness. Inflation is not three percent... let's be realistic. Someone's exagerrating those numbers.

If I had a cake and ate it, it can be concluded that I do not have it anymore. HHH

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Doesn't Schiff say that the government understates inflation?

http://thephoenixsaga.com/
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Wheylous replied on Sun, Dec 23 2012 11:07 PM

Sorry to be that guy, but you are kidding, right?

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Well, at least you're not being that old guy... But, yeah. That was sarcasm. There are problems with "inflation" measurement, but they do not include "overstatement".

If I had a cake and ate it, it can be concluded that I do not have it anymore. HHH

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Wheylous replied on Sun, Dec 23 2012 11:16 PM

To be fair, in some ways they do - people don't just take the higher prices - they change their consumption patterns through substitution.

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Blargg replied on Sun, Dec 23 2012 11:41 PM

If people really liked beef just as much as the cheaper chicken, they'd already be eating chicken. Basically, they're reasoning that since we can take measures to maintain the basic food groups in the face of increasing food prices, the prices aren't really increasing. Brilliant.

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This guy brings up a good point:

...use a trivial example like “a shopper might respond to an increase in the cost of Granny Smith apples, for example, by switching to lower-cost Red Delicious.” On average, this kind of behavior-linked chaining makes the chained index about 0.25 to 0.35 percentage points lower than the unchained index. So great news! Unless, that is, you really like Granny Smith apples. If the price of bourbon tripled overnight for some reason, I would, in fact, probably shift to scotch. But I’d be pretty pissed. In the grand scheme of things, whiskeys are fairly substitutable, but they make the different varieties for a reason—people have preferences about this stuff. By shifting chaining assumptions far enough, you could make inflation completely vanish. If people can’t afford medical care, they’ll just buy over-the-counter homeopathic remedies instead! The chained index doesn’t go nearly that far, but the point is that there’s no unique right or wrong answer (the British have their own version of the indexing controversy) for how to treat product shifting, and its impact on individuals’ welfare will vary enormously. (emphasis added)

So, in a way is the "chained" CPI even worse at measuring what the CPI supposed to measure - the effect of inflation on people's spending.

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...people don't just take the higher prices - they change their consumption patterns through substitution.

Does that mean prices haven't gone up?

Peter Schiff's reductio ad absurdum: Say chicken used to cost a dollar a pound, and dog food ten cents a pound. Now chicken is three dollars a pound, and dog food thirty cents a pound. Unable to afford chicken, people start eating dog food instead. So that they are spending thirty cents on food when they used to spend a dollar.

Prices have tripled. Prices are so high, people can no longer afford chicken, and are eating dog food. And yet, this a case of deflation according to the chain gang.

The whole idea is absurd, saying prices have not gone up because people have to resort to inferior stuff, due to high prices. How do I know it's inferior? The very fact that people chose not to buy it as long as they could afford something else.

BTW, I thought they have been using this cheap [excuse the pun] trick for years now. Not sure why they are saying it's something new.

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Exactly Dave, I thought they already assumed some substitution. That is why I was confused.
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It's my understanding that CPI measures (not inflation) the price changes associated with a "basket of goods" that consumers typically buy. Maybe this means that TPTB will change what goods are in the basket more regularly? That's the gist of what I'm getting from this video "explaining it":

http://yourmoney.blogs.cnn.com/2012/12/17/chained-cpi-explained/?iid=EL

The kicker? 

This new measure of "inflation" could 'result in slower "inflation" over time.' 

Sweet! This new measure will, all by itself, help preserve the value of my hard earned money- er.. am I falling into the Inflation Fallacy again? Gotta remember that neutrality of money!

Sigh.. what the hell. Helicopter Ben couldn't be any happier: Flood the markets with gross sums of money for an indefinite period of time and, when the prices rise, it wi'll be called "deflation".

If I had a cake and ate it, it can be concluded that I do not have it anymore. HHH

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Wheylous replied on Mon, Dec 24 2012 11:13 PM

Alright, you guys, you've convinced me :P

I was missing that essential component completely! Wow... that is sneaky!

Dang aggregates!

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