[johnwinters91]

Professor Herbener,

What is the most accurate method of measuring inflation?

I’m skeptical about government statistics…but is the CPI a reliable tool? Why or why not?

If not, what’s a better method?

Is there a good database or website that measures changes in purchasing power?

Thank you

[jmherbener]

Ludwig von Mises demonstrated that there is no single scientifically accurate way to construct a price index. Money is the general medium of exchange and therefore, its purchasing power can be expressed in terms of any set of goods. Each person will assess the purchasing power of money according to his own interest (i.e., according to the goods that he is interested in buying and selling). Each such construction of a price index has the same justification and therefore, the same scientific status as a measure of price inflation.

It follows that when the government constructs a price index it will be according to the interests of government officials and of the multitude of price indices they construct there is no way to demonstrate that one is scientifically more sound than the others in measuring price inflation.

Here’s a small sample of government computed price indices:

https://research.stlouisfed.org/fred2/categories/32455

There are a few non-government-agency computed price indices.

MIT compiles the billion prices project:

http://bpp.mit.edu/usa/

ShadowStats computes the CPI using the techniques employed by the government in 1980 and 1990.

http://www.shadowstats.com/alternate_data/inflation-charts

[johnwinters91]

I’m trying to understand more about inflation and the saying, “any supply of money is optimal”.

Is this correct reasoning?:

1. An increase in the money supply drives down PP, temporarily.
2. As PP decreases, prices rise.
3. Eventually, as prices rise, PP reaches a point that is equivalent to where it was before the inflation.( if this part is correct, how does this happen?)

Therefore, the danger of inflation is not in higher prices per se, but in the fact that it distorts time preferences, leads to malinvestments, and unfairly benefits those who have first access to the newly created money.

[jmherbener]

The claim that “any amount of money is optimal” does not refer directly to the dynamic process of monetary inflation.

Suppose that people have a money stock of $6 trillion and that today they make 1 billion trades. Then, they could still make their 1 billion trades if they had, instead, $3 trillion of money stock. In this case, prices would be roughly half as high. So any amount of money is sufficient for people to make all the trades that they want to make.

An increase in the money stock, with the demand for money given, drives up prices (or what is the same thing, drives down the PPM) permanently. However, the structure of prices will first be distorted and then restored. For example, suppose the Fed prints paper money and the government spends it on corn. The price of corn will rise as will the profit of corn farmers. Eager to earn the additional profit farmers will increase their demand for inputs (workers, seed, etc.) and investors will increase their demand for assets (farm land, equipment, etc.). Producers of those inputs and assets will have greater profit and the same process will occur with their inputs and assets. Having been earned by the producers of these goods, the new money will be spent on a wider array of goods across wider number of industries. Eventually, the additional profit in the areas mentioned will disappear and the rate of return will normalize. This process does not, however, require that the PPM fall back down but only that prices adjust relative to each other.

The same is true in cases of the boom-bust cycle. During the bust, the PPM does not need to fall back down, but the structure of prices relative to each other must normalize.

[johnwinters91]

I’m having a hard time reconciling the statement that “the structure of prices will first be distorted and then restored.” with the statement that PPM goes down permanently.

I’m reading Rothbard’s Mystery of Banking, and in his chapter about the supply of money, he uses the Angel Gabriel example of the effects of a QE. He writes that after a monetary expansion where the angel doubles peoples’ checking account balances,

” as they rush to spend the money, all that happens is that demand curves for all goods and services rise. Society is no better off than before, since real resources, labor, capital, goods, natural resources, productivity, have not changed at all. And so prices will, overall, approximately double, and people will find that they are not really any better off than they were before. Their cash balances have doubled, but so have prices, and so their purchasing power remains the same.”

What am I missing?

Thank you

[jmherbener]

Rothbard is referring to the purchasing power of a person’s entire money holdings. For example, at first he held $1,000 and the price of gasoline was $2.00 a gallon so the PP of of his $1,000 was 500 gallons of gasoline. After being visited by Gabriel, his money holdings were $2,000 and the price of gallon of gasoline was $4.00, so the PP of his entire money holdings was still 500 gallons.

What I was referring to as the PPM was the PP of a given amount of money, say a $1,000. After being visiting by Gabriel, the PP of a $1,000 has been cut in half. (500 gallons before his visit and 250 gallons after his visit.) This is the conventional way of referring to the PPM. It refers to the set of goods a given amount of money will buy.

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