Denying Inflation: Who, Why and How?
GroundSwell, November-December 2005]
Henry George foreboded that landowners might take an ever-larger
wedge of the national "pie", or product. Labor's wedge
might grow absolutely, as the pie's radius grows, but still fall as
a fraction of the whole pie.
George was too conservative, at least for our times. Since about
1975, labor's wedge of the pie is shrinking not just as a fraction,
but also as an absolute. "Real" wage rates have been
falling since about 1975. "Family wage" used to mean a
breadwinner's wage high enough to support a family; now it means the
combined wages of two adults. Many of these are "DINKS"
(Double Income, No Kids) because that is all they can afford without
cutting their customary material and educational standards.
What is this "real" wage rate? It is a ratio: the
nominal money wage rate on top, divided by an index to the Cost of
Living (COL) on the bottom. The higher the COL, the lower the real
wage. Landowners cut into labor's share from both the top and the
bottom, because the COL includes many products of land (like
building materials and energy) and land itself (like homesites).
The standard index to the COL is the Consumer Price Index (CPI),
calculated and published regularly by the Bureau of Labor Statistics
(BLS). This index is, we will see, a political football.
Henry George said little about inflation because it was not a
threat in his day. That was a time of "hard money" and the
gold standard. Prices were stable or falling. Today, though, to
check on George's forecast, we have to distinguish between nominal
money wages, and real wages.
An old Kingston Trio classic offered the following wisdom about
survival in The Everglades: "Yuh better keep a-runnin', an'
don't stan' still; if the skeeters don't gyitcha then the gators
will." If the skeeters of life are nicks taken from money
wages, the big gator now is the price of buying and owning a home.
Those in power have several reasons to understate rises in the
cost of living (COL), measured by the CPI.
- To mask the fall of real wage rates. This is supposed to
placate working voters. It is supposed to support orators
declaiming that our standard of living is ever rising, and we
should all feel good. Actually, real wage rates have fallen
steadily since peaking in about 1975. That is using the official
Consumer Price Index (CPI) to measure rises in the COL. If the CPI
understates rises in the COL, real wage rates have fallen even
faster than the data show.
As a by-product, this denial of inflation also supports those who
like to dismiss George as a false prophet of doom.
- To mask the fall of real interest rates, making savers and
lenders feel better, and more willing to lend to governments. In
this age of massive and growing federal debts, the U.S. Treasury
depends on willing lenders more and more, to stay solvent.
- To slow the rise of income tax brackets, which are indexed to
the CPI. That is, when the CPI rises by, say, 5%, the income level
at which you pass into a higher tax bracket also rises by 5%.
Congress, for once in a reasonable mood, enacted this sensible
provision when enough people became aware that they were victims
of "bracket creep". Bracket creep is when inflation
boosts your money income into a higher tax bracket, although your
real income has not risen.
However, if the true COL rises by 10%, while the CPI rises by
only 5%, this provision no longer protects us against bracket
creep. It just makes us think we are protected. Sneaky! That is
why you, dear reader, may have had a hard time following the bean
under one of the three shells. Politicians, of course, are good at
withdrawing promises. The sneakier the method, the easier it is
for them to cover their tracks.
- To cut the real value of social security payments. This point
is straightforward. These payments are also indexed to the CPI. If
the CPI understates the COL, real social security benefits fall
every year. Congress gets to spend the savings on wastes like
Alaska's "bridge to nowhere", redundant imperialistic
ventures, tax cuts for major campaign contributors, and no-bid
contracts for the well-connected.
- To cut rises in labor union and other contracts that are
indexed to the CPI.
- To give the Federal Reserve Bank credit for having "tamed
inflation", when in fact inflation of land prices is running
That is the "Why" of veiling inflation, or enough of it
to show the motivation of those in power. Now let us look at the "How".
There have been two major steps in recent decades.
First was removing the costs of buying and owning homes from the
CPI. The Bureau of Labor Statistics (BLS), the agency that
calculates the CPI, did this from 1983 onwards. They didn't remove
it altogether, that would have been too transparent. Instead they
substituted the "rental equivalent" of housing. This is
supposed to be what your house would rent for, or what you would pay
to rent a similar house. It is a hypothetical and casual figure --
sloppy and unverifiable, that is -- based simply on questionnaires
to a sample of homeowners. It takes no account of the fact that some
people will pay, and therefore everyone else must pay extra to own,
because of expected higher future rents and resale values. Thus the
land boom of 1983-89 had little effect on the CPI. Again, in 2004
housing prices rose by 13%, while these "rental equivalents"
rose only by 2%.
It also takes no account of the extra land around some houses. It
takes no account of recreational lands, which now have displaced
farming and forestry over whole counties and regions.
The second major step was the Boskin Commission Report of 1995
(Newt Gingrich was running Congress), and its acceptance and
implementation. Michael Boskin of the Hoover Institution was called
upon to legitimize the beliefs or allegations of many that the CPI
overstated inflation. He and his Commission obliged, and supplied
the rationale for several rounds of trimming down the CPI.
The Boskin Commission method was old-fashioned cherry-picking.
They accumulated evidence supporting the foregone conclusion, and
omitted contrary evidence. Most tellingly, they were silent about
the biggest factor by which the CPI understates inflation: that is
the use of "rental equivalence" in place of home prices.
Now, shelter costs are about 40% of consumer budgets, and hence of
the COL. To accept an extreme understatement of shelter costs, while
distracting us with lesser factors, shows bias.
Most professional economists, sad to say, treat Boskin's report
as holy writ. They come on like preachers and salesmen, not like
scientists exercising independent judgment. I have recently surveyed
20 current texts in Macroeconomics. They all list the same four "biases",
in the same order, that they allege make the CPI overstate
inflation. These are:
- Substitution bias. When the price of something rises, you use
less of it, so it should be weighted less in the index.
- Quality improvement bias. Products of the same name keep
- New product bias. The CPI lags in showing how new gadgets raise
our welfare. Microchip products, of course, are the example of
- "Discount bias". The CPI scriveners assume that
products sold in discount stores are of lower quality, when they
really are just as good.
Let's just take point "b", above, quality improvement
bias. The texts give some examples, but not a single
counter-example. Here are a few of the latter.
- 2x4 dimensional lumber is no longer 2x4, but smaller in both
- salmon is no longer wild, but farm raised in unsanitary
conditions, and died pink
- "wooden" furniture is now mostly particle-board
- "wooden" doors are now mostly hollow
- new houses have remote locations, far from desired destinations
- ice cream is now filled out with seaweed products
- the steel in autos is eked out with fiberglass plastic and
other ersatz that crumbles in minor collisions
- airline travel is no longer a delight but a series of insults
- gasoline used to come with an impressive array of free
services: pumping the gas, checking tire pressure and supplying
free air, checking oil and water, cleaning glass, free maps, rest
rooms, mechanic on duty, friendly road advice and conversation.
They served you first, you paid after. Stations were easy to find,
to enter and exit. They wanted your business: how times have
- milk was delivered to your door
- clerks in grocery and other stores went and got items for you;
now, many of them hardly know or care what and where they are
- suits came with two pairs of pants and they fitted the cuffs
free. Waists came in half-sizes
- socks came in a full range of sizes
- shoes came in a full range of widths; the clerk patiently
fitted the fussiest of customers
- the post office delivered mail and parcels to your door, often
twice a day
- public telephones were everywhere, not just in airport lobbies.
Information was free; operators actually chatted with you and gave
you street addresses
- public transit service was frequent, and served many routes now
- autos used to buy "freedom of the road"; now they
buy long commutes at low speeds and rage-inducing delays. One must
now travel farther and buck more traffic to reach the same number
of destinations. Boskin et al. dwell on higher performance of
cars, and the bells and whistles, but take no note of the
cost-push of urban sprawl.
- classes keep getting larger, with less access to teachers and
top professors, and more use of mind-numbing "scantron"
- before world war II, an Ivy-league college student lodged in a
roomy dorm with maid service and dined in a student union with
table service, and a nutritionist planning healthy meals. All
that, plus tuition and incidentals, cost under $1,000 a year. Now,
to maintain your children's place and status in the rat race,
you'd put out $40,000 a year for a claustrophobic dorm and junk
food. But a B.A. no longer has the former value and cachet. Now
you need time in graduate and professional schools to achieve the
same status. Many students emerge with huge student loan balances
to pay off over life.
- warranties on major appliances cost extra, aren't promptly
honored, and expire too soon. Repair services and fix-it shops
used to abound to maintain smaller appliances. Now, most of them
- replacement parts for autos are hard to find, exploitively
overpriced, and are often ersatz or recycled "afterparts"
- musical instruments are mass-produced and tinny instead of
hand-crafted and signed
- piano keys were ivory; now plastic
- many new "wonder drugs" have bad side-effects, while
old aspirin still gets the highest marks
One could go on and on, but the point is that Boskin et al. never
considered any counterexamples to their foregone conclusions. If
they did this where we can observe and monitor it, what else did
they do under cover? The BLS, succumbing to the political pressure,
keeps modifying the CPI to show less inflation, even while our daily
experiences and shrinking savings tell us there is more.
George warned that landlords might take most of the fruits of
progress, leaving labor barely enough to survive. Critics then and
now have urged us, instead, to don rose-colored glasses. The rosiest
of these is the CPI as manipulated to screen out all the bad news.
Let us be aware of who is manipulating it, why, and how.