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« Misusing the Most Powerful Computer - Part 2 | Main | To Profess or to Manage: That is the question »

June 16, 2007

Comments

oldprof

Thanks for the pointers and comments from all. I think I need to do a follow-up post on this one, since I did not seem to get the point across on the first pass.

Your feedback will help me do better, perhaps.

Jeff

oldprof

David -
Thanks for your comments - always factual and helpful. As you know, I'm happy to have people disagree, especially those with something to say.

I am a bit surprised though, since I do not particularly endorse the Fed's use of core inflation. I am a realist, though, so I believe we should keep an eye on their chosen measure.

I am curious. How do you think I should advise my client, Mark? What would you tell one of your clients who was going to sell stocks because of this inflation measure?

Thanks,

Jeff

Bill aka NO DooDahs!

Therox, why don't you just direct them to the Capital Stool?

theroxylandr

Another post about inflation:

http://theroxylandr.wordpress.com/2007/06/15/inflation-is-in-danger/

muckdog

Aren't we all guilty of rounding to give us the best outcome? We round our height up. We round our weight down. So are we shocked to see the inflation numbers rounded down?

The CPI is a very large basket of stuff. We're all quick to jump on the things that went up in price, but nobody ever mentions the things that went down in price. I listed a few the other day.

But there is one sad tale to tell:

In Germany, farmers are ripping out barley crops and planting corn for alternative energy. Think about it. Here it comes... BEER prices are skyrocketing!

"D'oh!"

There is no hedonistic adjustment to be made.

RB

The Fed studies indicate that energy prices have mattered less for the core than inflation expectations
http://www.nasdaq.com/econoday/reports/US/EN/New_York/resource_shorttake/year/2007/weekly/13/index.html

but the Fed is starting to recognize the importance of energy prices in maintaining inflation expectations
http://macroblog.typepad.com/macroblog/inflation/index.html

Barry Ritholtz

Food and energy are dropped from the core rate because they are volatile from month to month and will cause understatements and overstatements in inflation estimates based on month to month price changes.

However, I understand wanting to remove an unusual spike (I.E., Post-Katrina gas surge).

But 5 years ago, Oil was $18; Its now $68; Milk was $2 a gallon; now, its now heading to $5. Medical costs have gone up relentlessly between 10-15% / yr.

If you want to remove the monthly volatility, you can drop the outliers (like the Cleveland Fed does), or use a moving average, or look at the year-over-year numbers.

All three methods reveal that (non-volatile) inflation is MUCH higher than the reported core.

There's data smoothing, and then there's inflation ex-inflation. The core rate is looking more and more like an exercise in hiding the true state of price stability.

David Merkel

Jeff, I agree with half of your points here, but wouldn't it be better to drop "core inflation" which was only adopted because of the volatility of food and energy prices, and use a better statistical technique to reduce volatility (one that does not consistently throw away a set of data)?

I prefer the Cleveland Fed's median CPI calculation. When the distribution is unknown, the median is a more robust estimator of central tendency than the mean (and less volatile also). Or the Dallas Fed with their "trimmed mean." That is also a better measure of central tendency when the distribution is unknown.

It's not just the last few years. By excluding food and energy, core inflation has been lower than inflation for the last 20 years. We need to move to inflation measures that include all data, while smoothing out aberrations. The median CPI does this. Core CPI does not.

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