Hedonics and Substitution:
The last few years presented a shocking state of the world where shortages and substantial inflation rapidly altered the affordability of goods and services. While people struggle to make ends meet, US Government data from the Bureau of Labor Statistics (BLS) reflects that the peak annualized inflation of recent years topped out in 2022 at 9.1%. Oddly, many people wouldn’t notice a 9% increase in inflation as typical price volatility from sales alone often provides discounts that can be far larger than that (consider a common 20% off sale). However, virtually everyone perceived recent inflation as goods and services rose 50% or 100% or more in many cases -- life changed so dramatically that data reflects millions took on 2nd or even 3rd jobs to cover the increased costs in housing prices, mortgage interest, insurance prices, groceries, restaurants, autos and virtually anything you can think of.
What causes this massive divergence in the government’s stated inflation rate and our perception of prices?
The answer lies in the incentives of the government to stealthily tax the population to reduce the size of the unfunded mandates of government. If the government shows lower inflation, they pay smaller cost of living adjustments (COLA) to social security recipients or to their massive government workforce.
The fundamental methods BLS relied on over the past 30 or so years are known as hedonics and substitution. Hedonics recognizes the value of innovations or added features to a product enabling the government to assume the improvement offsets inflation. Separately, substitution identifies when prices rise people may shift to different products, such as from beef to pork and to the extent the change in products occurs, the inflation calculation considers the price reduction as an offset.
As you may now recognize, the black box of hedonics and substitution suffer opacity and product specific complexity and therefore create a golden opportunity for the government to serve itself.
Given the plain facts that we suffered far more than 9.1% in 2022, it is safe to say that the government was the thief in the night and stole from the entire nation.
And as evidence that the government agency does apply hedonics in a manipulative fashion, consider:
The “perceived credibility” standard is something new in the critique of price hedonic methods and, more generally, in the discussion of price measurement. It asserts a higher standard of acceptability for results that have a significant effect on policy (and, by extension, on the well-being of the public) than it does for “academic” research. This idea has been implicit in policy analysis (and in statistical agency policy) for a long time, and the explicit appeal to the perceived credibility standard may well be the most enduring intellectual contribution of the NRC panel. (italics added).
However tragic this formalized manipulation, potentially more important than inflation is actual economic growth. Unfortunately, to the extent inflation is manipulated downward, this impacts the calculation of Gross Domestic Product (GDP) in a parallel manner. This is because initially the government arrives at nominal GDP in their calculation of GDP. Then, they deduct inflation to calculate real GDP. To the extent BLS artificially minimized inflation, the GDP calculation then incorporates a smaller inflation deduction, resulting in an artificially larger real GDP.
For example, if BLS presents that inflation at 2% instead of an actual 4%, GDP will then be 2% higher. See Peter Schiff’s video at 35:50 supporting inflation’s impact on the GDP calculation: https://www.zerohedge.com/markets/peter-schiff-economy-may-already-be-recession
Given this reality, during inflationary periods, either disregard BLS estimates of GDP or adjust them using alternative inflation calculations that are not artificially minimized.