We’re Inflating Like a Balloon

Monday is here, and it’s a lovely morning in the Far East.

I usually avoid Bloomberg Television, but I watched to see their reaction to our latest set of inflation numbers on Friday night.

Just once, I’d like to see a pundit – any pundit – call out the government and the Fed for their lax policies and inability to admit mistakes.

Instead, we got a “this is a good report” from most participants.

Cue my blood pressure rising.

This is not a good report.

Inflation is not transitory.

The Fed no longer has control – as if they ever did – on the reins of inflation.

The government’s fiscal policy is a train wreck and is itself highly inflationary.

Let’s get to it.

  • The inflation rate rose 6.8% year on year, matching the consensus estimate.
  • Core inflation, which excludes food and energy, rose 4.9% y-o-y.
  • Food prices were up 6.1% y-o-y.

How We Calculate the Inflation Numbers

First, let’s quickly go through how the Bureau of Labor Statistics calculates the inflation rate.

The BLS puts out the consumer price index (CPI) every month.  But indexes can be tricky to understand, so the BLS converts the index number into a percent change.

To have an index, you must have a base period.  In the CPI’s case, the base period is 1982-1984.  That “basket of goods” is assigned the level of 100.

About 80,000 goods are placed in that figurative basket.  The BLS takes a snapshot of the price of the basket every month.

The current CPI is 277.948.  That means, on average, the price of that basket of goods has nearly tripled.

Yes, stuff is a lot more expensive than 40 years ago.

Let’s do a quick example using the BLS numbers themselves.

Friday’s CPI reading for November was 277.948.  November 2020’s CPI index read 260.229.

To take a percent change, the formula is ending/beginning – 1.

So the percent change, year-on-year, is 277.948 / 260.229 – 1 = 6.8%.

You interpret that as “the basket is 6.8% more expensive than it was the same time last year.”

Our math matches the 6.8% the BLS put out in their report.

Credit: BLS

It’s good to know where the numbers come from and how they are calculated, but you don’t need to do this when they do it for you.

Food and Energy Exclusion

The BLS pulls out food and energy prices to create a “Core CPI.”

The reason is that food and energy prices are too volatile, and they want to get a sense of underlying prices.

My problem with this train of thought is that food and energy are the two most critical economic goods for humans.

Side note: If your treehugger buddies ask, “What about love?” tell them that as love is limitless, it’s not an economic good.  It’s a free good.

That should shut their nonsensical pieholes for a while. 

That’s not to say the BLS is hiding anything.

My concern is that policy decisions based on the CPI may ignore volatile data while in a secular trend.  (Yes, there is such a thing as upside volatility.  Just take a look at Tesla’s stock chart.)

Another huge concern is that when food prices increase, civil unrest increases.  It’s essential to remember that a much larger proportion of a poorer person’s wallet is spent on food than a rich person’s.

As for criticisms of how the CPI is constructed and computed, the BLS does a good job on its website of rebutting those concerns.

Concerns Over the Years About the CPI Calculation

John Williams of shadowstats.com alleges in a 2013 report that the CPI calculation is no longer fit for purpose.

Among other things, these are the most damning of his allegations for regular folk:

  • With the misused cover of academic theory, politicians forced significant underreporting of official inflation, so as to cut annual cost-of-living adjustments to Social Security, etc.
  • Politicians look to expand further the concept of artificially-suppressed cost-of-living adjustments in current budget-deficit negotiations, through the use of the Chained-CPI.
  • Use of the CPI to adjust retirement benefits, private income or to set investment goals impairs the ability of retirees, income earners, and investors to stay ahead of inflation.

Williams calculates his own inflation estimates, based on the method used back in the 1980s when he was a Reagan-era economist.

Credit: ShadowStats.com

Interestingly, Williams’s criticism was met with praise during the early recovery period after the 2008 crisis.

But the BLS and the academics have held fast.

Here are two choice responses from the BLS website.  I’ve left out some stuff here for clarity purposes:

When the cost of food rises, does the CPI assume that consumers switch to less desired foods, such as substituting hamburger for steak?

Specifically, in constructing the “headline” CPI-U and CPI-W, the BLS is not assuming that consumers substitute hamburgers for steak. Substitution is only assumed to occur within basic CPI index categories, such as among types of ground beef in Chicago. Hamburger and steak are in different CPI item categories, so no substitution between them is built into the CPI-U or CPI-W.

Is the use of “hedonic quality adjustment” in the CPI simply a way of lowering the inflation rate?

Many of the challenges in producing a CPI arise because the number and types of goods and services found in the market are constantly changing. If the CPI tried to maintain a fixed sample of products, that sample quickly would shrink and become unrepresentative of what consumers were purchasing. Each time that an item in the CPI sample permanently disappears from the shelves, the BLS has to choose another, and then has to make some determination about the relative qualities of the old and replacement item. If it did not–for example, if it treated all new items as identical to those they replaced — significant upward or downward CPI biases would result.

Wrap Up

Government statistics matter because of both the policy and actual outcomes and the effects of those outcomes on the people.

Retirees need social security to keep up with costs.

It takes 10 minutes to check out of the supermarket with your shopping cart.

Now imagine trying that with 80,000 goods every month.

In the meantime, it’s important to stay ahead of the inflation curve.

Bitcoin and stock do a good job of that right now; gold, historically.

Until tomorrow.

All the best,


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