Delving Deeper into the Inflation Issue

Monday, June 18, 2007 | 06:41 AM


"Who are you gonna believe, me, or your lyin' eyes?"


As the lyrics above note, the consumer knows what the economists do not: There is plenty of pernicious inflation, and it has stubbornly remained in the pipeline. This is regardless of the fanciful notion that so long as we ignore Food and Energy, inflation remains contained.

Of course, this is utter nonsense.

While some have argued that Mr. Market's rally is proof positive of inflation's demise, we find little evidence for that line of analysis. As was astutely pointed out in Barron's Trader column, it is not the absence of inflation but rather the availability of liquidity that matters most to equities: "In a liquid world, and compared with real estate, bonds or metals, the stock market manages to look...somewhat safe and chaste. That honor may seem as dubious as being called the least-ugly contestant in a beauty pageant, but it was enough for a winning performance."

Thus, our inflation critique is not a diatribe against irrational markets; rather, this is a screed against those who argue there is little or no inflation.

We have outlined our own complaints about the errors in the BLS Methodology ad nauseum. So rather than reiterate our inflation ex-inflation complaints again, today, we are going to turn the floor over, in large part, to Bill King of Ramsey Securities.

Bill has been dissecting the BLS data longer than most of us have been trading. One of Bill's biggest complaints about the BLS methodology is how they can make "Up" look like "Down."   

Consider what happens when the BLS looks at rent/OER: "They supposedly net out utility payments. So if your rent payment stays constant but utility bills go up, that yields a lower net implied rent. In other words, utility prices going up caused rental prices and CPI to go down.”

That sounds too absurd for even the Bureau of Labored Statisitcs, so let's go to the BLS site to verify the BLS on its OER methodology:

Calculating Pure Rents - BLS derives data on the monthly economic rent for each renter unit in the survey. The economic rent is the contract rent (including the  value of certain rent reductions) adjusted by the value of any changes in the services the landlord provides. A change in what renters get for their rents is considered to be a quality change, which may be  either positive or negative. The value of any changes is applied to the current economic rent to make it  consistent with the previous data. For example, adjustments are made for most changes in utilities and  facilities. If the landlord stopped providing electricity, a positive adjustment would be made to the current economic rent to make it consistent with the previous data.”

So it turns out to be true: By their own methodology, as Utilities go up, OER rent comes down. That's truly an Alice in Wonderland construction. But when it comes to utility costs, the rest of the story is even more unreal:

The BLS admits, “The index for household energy declined 0.1 percent as a 0.9 percent decrease in the index for natural gas was partially offset by increases in the indexes for fuel oil and for electricity--up 1.9 and 0.1 percent, respectively.  (Prior to seasonal adjustment, charges for electricity rose 1.7 percent, reflecting the switch to seasonal rates in some areas.)” 

The BLS adjusts a 1.7% jump in electricity costs to only a 0.1% increase . . .

OER is about 40% of core, higher utility rates can produce a significant reduction in Core CPI.

But that's just the tip of the iceberg. Consider the even more bizarre concept of OER as representative of the entire home-dwelling US public. More than three times as many people OWN THEIR OWN HOMES then rent their abodes. So why do we use Rental Measures for measuring shelter inflation?

King is one of the few people even more apoplectic over this charade than I am. He asks:

"How can any self-respecting economist proclaim that inflation remains contained because less than 26% of the US (% that rent) experience a minor increases in rent?  The scheme originated by Fed CEO Art Burns in the ‘70s to propagandize ‘Ex-food & energy’ as the true inflation measure to divert public attention from escalating inflation, abetted by Street shills and the media, has worked spectacularly."

Here's the reality about OER: If we wanted to know what inflation really is, wouldn't we be better off measuring the costs that actual homeowners -- that 75% of Americans who own where they live -- actually encounter? You know, things like repairs, property taxes, utilities, interest rates, building materials, etc.?   

I suspect you already know the answer to that question . . .   

Monday, June 18, 2007 | 06:41 AM | Permalink | Comments (67) | TrackBack (1) add to | digg digg this! | technorati add to technorati | email email this post



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» Agflation ! from The Big Picture
Over the years, we've looked at -- and coined one or two -- terms for the current inflationary environment. We have reviewed such phrases as:Stagflation: The classic 1970s term for high inflation ( 6%), very anemic growth (0-2%) Blahflation: Street Ins... [Read More]

Tracked on Jun 21, 2007 7:01:28 AM


I'll have some more on this later today

Posted by: Barry Ritholtz | Jun 18, 2007 7:15:00 AM

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