Chained Weighted CPI

Behind the degeneracy of language lies the degeneracy of ideas. Those seeking to corrupt the minds of their fellow man, naturally seek to corrupt the language. One way is to expand the definition of words to include things previously excluded. Another is to coin new terms that presumably capture new ideas, but in reality conceal some truth that could be stated in plain language. Chain Weighted CPI is an example.

An alternative measurement for the Consumer Price Index (CPI) that considers product substitutions made by consumers and other changes in their spending habits. The chain-weighted CPI is therefore considered to be a more accurate inflation gauge than the traditional fixed-weighted CPI, because rather than merely measuring periodic changes in the price of a fixed basket of goods, it accounts for the fact that consumers’ purchasing decisions change along with changes in prices. Because the fixed-weighted CPI may consistently overstate inflation by ignoring the disinflationary effect of quality improvements and new technology, in addition to the substitution effect, the U.S. Bureau of Labor Statistics maintains that the chain-weighted CPI is a closer approximation to a cost-of-living index than other CPI measures.

That sounds wonderful, but it no more of an empirical truth than the claim that vanilla ice cream is better than chocolate ice cream. The word to key on is “better.” That’s not an empirical term. Fred may be better than Joe, in the opinion of Fred’s mother, but Joe’s mother will hold a different opinion. On the other hand, if Fred is taller than Joe, that’s not a disputable opinion. It is an empirical fact. We can measure both men and arrive at the correct answer. Height is not a matter of opinion.

Economists at the BLS may feel one measure is better than the other, but that is meaningless. The rest of us are not living our lives to make the BLS happy. We make our value judgments based on all sorts of personal and cultural factors. We think sports cars and better than sedans, because of the cultural connotations. We may like chicken better than steak, because of personal taste, but the market place thinks steak is better, because more people prefer steak. Speaking of which,  from Investopedia:

For example, consider the impact of two similar and substitutable products – beef and chicken – in the shopping basket of Mrs. Smith, a typical consumer. (Let’s ignore for the moment the fact that the “core” inflation rate ignores food and energy prices because they are too volatile.) Mrs. Smith buys two pounds of beef at $4 / lb. and two pounds of chicken at $3 / lb. A year later, the price of beef has risen to $5 / lb. while the price of chicken is unchanged at $3 / lb. Mrs. Smith therefore adjusts her spending pattern because of the higher price of beef, and buys three pounds of chicken, but only one pound of beef.

The fixed-weighted CPI measure would assume that the composition of Mrs. Smith’s shopping basket is unchanged from a year earlier, and would compute the inflation rate as 14.3% (i.e. the difference between the total price of $14 and $16 paid for two pounds of beef and chicken a year apart). The chain-weighted CPI measure would, however, consider the effect of Mrs. Smith substituting a pound of beef with a pound of chicken because of its lower price, and would compute the inflation rate as zero (because the total amount spent is unchanged at $14).

Now, we can pretend that chicken and beef are interchangeable products, even though they are not. We can also pretend that consumers value both equally, even though we know they don’t. We can also pretend that people value living in a nice neighborhood the same as living in a ghetto. We can pretend that people value walking to work the same as driving, particularly in driving rain storms.  In other words, the mischief potential makes this an entirely worthless method for measuring inflation.

Of course, economists refuse to acknowledge this rather obvious problem. When you bring it up, the response is “how can we know people prefer X over Y and are not just responding to price?” In other words, confirmation of the defect is denial as long as it is in the form of a question. Then they quickly change the subject and lard up their response with meaningless jargon. It is why macroeconomics is not a serious field, outside of some basic observations about human behavior.

1 Comment6
Oldest
Newest Most Voted
Inline Feedbacks
View all comments
economicsinstitute
economicsinstitute
6 years ago

that is a liberal position to take on this issue since not chaining the CPI would lead to more entitlement spending. I’m sure citizens would prefer wagu beef as well, but that’s not practical. These programs are designed to provide the necessary caloric intake for functioning. “The point of public policy must always be the increase of happiness of citizens” Also seems like a liberal view. People can pursue happiness on their own terms, but we cannot count on public policy to necessarily increase it. Sometimes some people will be happier than other.s There will always be economic winners and… Read more »