Inflation isn't as low as we're told; here's why

Last month, Fed Chairman Jerome Powell, after praising the health and vigor of the economy, added that “inflation is low.” But is it? Unfortunately, our inflation numbers are less than credible. Here’s why.

The Bureau of Labor Statistics (BLS), which issues measures like the Consumer Price Index (CPI) gauging the change over time of the price of certain goods, has put tremendous efforts into adjusting for qualitative advances, recognizing that many price increases reflect product improvements, not just higher price tags.

Alas, qualitative advance has an evil twin: quality degradation, which is conspicuously absent in most BLS calculations, even though two forces — globalization and an increasingly service-oriented economy — strongly suggest that quality degradation is extensive and increasing.

Globalization has very greatly intensified price competition, which significantly inclines producers toward reductions in quality (quality invariably costs) that consumers often only discover, sometimes tragically, after the purchase. Indeed, Japanese producers like Nissan, Subaru, Kobe Steel, Mitsubishi Motors and Toray Industries, once icons of international quality, have become disgraced fallen angels after various scandals revealed subpar products.

Exploding laptops and iPhones, defective sleepwear, unreliable tires, risky toys, fire-prone space heaters and fake drugs have become commonplace today. But these failures are largely ignored in official measures. The BLS, for example, examines new automobile prices and appropriately deducts higher costs associated with new capabilities (like built-in GPS, parking guidance, etc.) — so as to separate improvement-driven price increases from real inflation. Yet, excepting for reduced vehicle warranties, there are no adjustments for near ubiquitous automobile quality degradation.

In May 2017, Ford and Fiat-Chrysler had major recalls, dozens of parked BMWs exploded into flames, and the Department of Justice charged Fiat-Chrysler with cheating on emissions, a deliberate scheme labeled “diesel-gate” the prior year when similar tactics by Volkswagon and Mitsubishi were exposed. Automobile recalls have increased in 14 of the last 21 years, with number of vehicles involved rising every year since 2011. Hundreds (more likely thousands) have died from these quality failures, and 2018 is certain to set another dismal record. Yet neither recalls nor emissions failures are anywhere to be found in BLS calculations.

Today’s new homes often have narrower driveways, utilize pressed wood rather than lumber, and are often more fire prone. Construction in general has been inundated with counterfeit materials, to include steel, fasteners, valves, pipes and circuit breakers. The tragic 2017 London fire that killed 80 people was due to inexpensive external paneling laden with combustible materials.

Despite massive food recalls — products leading to listeria and salmonella, bad poultry, tainted ice cream, etc. — the BLS makes no food quality adjustments. NBC Nightly News has twice cautioned viewers about online buying, citing a survey which found 20 of 47 products to be fake. Sadly, cheaper imports, which have meaningfully held down U.S. prices, have been far less than meet the eye.

Service sector quality deterioration is similarly rampant. Telephone waiting times have become agonizingly frustrating. Fewer robots and more human operators would greatly help but would also raise business costs. The airlines have become flying cattle cars, with distance between rows falling by 11 to 20 percent. While air fares are well captured in CPI measurements, today’s flights are astoundingly treated as if they were equivalent to those of past years. Similarly, in June 2017, the Washington, D.C., transit authority implemented both higher fares and reduced services. The price increases are captured, but the service reductions are not. Banking services are also often disappointing, with TD Bank’s 2013 advertisement — “It’s time to bank human again” — directed toward obvious customer frustrations. Then there’s Wells Fargo, which after already paying $185 million in fines, had fraud issues once again surface last March.

In medicine, hundreds of procedures are price-compared over time. However, waiting times for appointments for many medical specialties have significantly risen. Nonetheless, if a visit or procedure costs the same as last year (but takes longer to obtain), officially there is no inflation, reminiscent of a popular jest in the famously low-quality Soviet Union: “We have the best prenatal care in the world, but the baby is six months old before it is ever seen by a doctor.” And a 2016 Johns Hopkins University study listed medical mistakes as America’s third largest category of killers after heart disease and cancer.

The BLS must examine quality degradation — the elephant in the room — as vigorously as quality improvements. With a more balanced approach, we would likely find that inflation is not so low after all.

Donald L. Losman (Losmand@gmail.com) teaches at the Elliott School for International Affairs at the George Washington University, where Maroun Medlej (maroun@gwu.edu) is an assistant professor of finance at the School of Business.

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