What if Inflation is Lower than Reported?

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Martin Feldstein makes the case. John Cochrane draws out one implication.

It would mean that we really have 0% nominal interest rates, 1.5% deflation rather than 1.5% inflation; +1.5% real rates rather than -1.5% real rates.

I find it much more satisfying to believe that the real interest rate is positive than to buy into secular (demand) stagnation. But some caveats:

1. Tyler Cowen’s third law.

2. I think that talking about “the” rate of inflation is difficult when relative prices are changing by much more than the average of all prices. Prices in the New Commanding Heights sectors of education and health care still seem to be rising faster than other prices. Products that incorporate computer chips still seem to be getting better and/or cheaper. Housing costs are going up in some locations, not in others. Etc.

4 thoughts on “What if Inflation is Lower than Reported?”

  1. I don’t think you can learn much about inflation from the health and education sectors. These are the lands of the creeping calculation problem, where prices are decreed more than discovered. In the market world, prices are conduits of information about relative scarcity. On the commanding heights, what look like prices are often just reflections of government budgetary decisions. Your veterinarian’s bill will tell you more about medical cost inflation than your cardiologist’s.

    And I don’t get this “commanding heights” metaphor — why not “festering swamp”?

  2. The inflation we have is partly a supply issue.
    http://idiosyncraticwhisk.blogspot.com/2015/01/december-2014-inflation-and-adjusted.html
    This is all very interesting, and I don’t have the details worked out. But, all the limits on housing, including the now nearly decade-long collapse in the mortgage market, have created housing inflation for 30 years. About half of the core inflation is from a lack of housing supply.

    The interesting thing is that this probably doesn’t show up in productivity numbers. While housing construction productivity doesn’t look like it’s been outstanding, it isn’t the productivity level of homebuilding that is the constraint. It is the lack of available development, which gets expressed in the price of land and the rising level of rents.

    There are also many public expenditures and transfers which I assume aren’t easily counted in productivity measures, so education, health care, and infrastructure have very high de facto inflation that probably doesn’t show up anywhere in a systematic way.

    So, inflation is probably overstated in the private goods economy, but there are a tremendous number of supply issues. It could be that workers need to see nominal wage growth of 2% or more in order to keep running on the income treadmill. The problem isn’t keeping up with the Joneses. The problem is paying for the huge portion of the economy that is in unmeasured structural decline as a result of public policies that hinder supply.

    • Just to clarify: Half of core inflation right now is from shelter. Shelter inflation has been high for 30 years, but I don’t think it accounts for half of the inflation for the entire period.

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