How Close to Deflation Are We? Perhaps Just a Little Closer than You Thought

Since last October, the consumer price index (CPI) has gone up an annualized 0.7 percent. On an ex-food and energy basis, the number is a little lower, at 0.5 percent. And the Cleveland Fed’s trimmed-mean and median CPIs, at 0.7 percent and 0.2 percent, respectively, also put the recent trend in consumer prices in pretty low territory.

And this is before we take into account any potential mismeasurement, or “bias,” in the construction of the CPI.

How big is the CPI’s bias? Well, in 1996, the Social Security Administration commissioned a study on the accuracy of the CPI as a measure of the cost of living. This so-called “Boskin Commission Report” said the CPI was overstated by about 1.1 percentage points per year. The commission identified several sources of potential bias, but about half of the 1.1 percentage points resulted from new products and quality changes that were slow or otherwise imperfectly introduced into the price statistic.

Since that time, the Bureau of Labor Statistics has initiated a number of methodological changes that have reduced the CPI’s mismeasurement. In a 2001 paper, Federal Reserve Board economists David Lebow and Jeremy Rudd put the CPI bias at only about 0.6 percentage points. And again, of this amount, the big share of the bias (about 0.4 percentage points) resulted from the imperfect accounting of new and improved goods.

Now, in an article (available to all in its working paper version) appearing in the latest issue of the American Economic Review, Christian Broda and David Weinstein say the earlier estimates of the new goods/quality bias may be a bit understated. The authors examine prices from the AC Nielsen Homescan database and conclude that between 1996 and 2003, new and improved goods biased the CPI, on average, by about 0.8 percentage points per year. If this estimate is accurate, consumer price increases since last October would actually be around zero, or even slightly negative, once we account for the mismeasurement of the CPI caused by new and improved goods.

But (oh, you just knew there was going to be a “but” in here, right?) the authors also point out that, because new goods are introduced procyclically, this bias tends to be larger during expansions and smaller during recessions. In other words, given the severity of the recession and the modest pace of the recovery, there may not be a whole lot of innovation going on right now in consumer goods. This is a bad thing for consumers, of course, but it would be a good thing for the accuracy of the CPI.

About Michael Bryan 9 Articles

Affiliation: Federal Reserve Bank of Atlanta

Mike Bryan is a vice president and senior economist in the Research Department of the Federal Reserve Bank of Atlanta. He is responsible for organizing the Atlanta Fed's monetary policy process.

Mr. Bryan previously served as vice president in the research department at the Federal Reserve Bank of Cleveland where he specialized in business analysis with an emphasis on measuring and tracking inflation trends. He joined the Cleveland Fed as a bank examiner in 1978 and transferred to the Research Department the next year. In 1986, Mr. Bryan served as an economist in the Research Division of the Federal Reserve System's Board of Governors in Washington, D.C. He was promoted to the position of economic adviser in 1991 and appointed as a bank officer in 1995. In 1998, he was a visiting scholar at the Bank of Japan's Institute for Monetary and Economic Studies in Tokyo, and in 2000 he was a visiting economist at the Swedish Riksbank in Stockholm. Mr. Bryan taught in the Department of Economics at Cleveland State University and has served on the faculties of Baldwin-Wallace College and Case Western Reserve University, both in Cleveland. He joined the Atlanta Fed in 2008.

A native of Cleveland, Mr. Bryan earned a bachelor's degree in business from Miami University in Oxford, Ohio, and a master's degree in economics from Case Western Reserve University.

Visit: Michael Bryan's Page

Be the first to comment

Leave a Reply

Your email address will not be published.


*