How The Government Fools You

You sleep better at night knowing that you have sound financial planning in place that would beat inflation as measured by Consumer Price Index (CPI).

You vote politicians in and out of offices based on Gross Domestic Product (GDP) numbers.

CPI and GDP are the two most widely used economic data by the general public. CPI and GDP are also the two most glaring examples of how the government fools us.

What You Think CPI Is

The government used to measure CPI by tracking the price of a fixed basket of goods and services. It was a simple method of measuring the cost of maintaining a constant standard of living.

If the price of the basket went up in a year, income needed to increase by at least that much to maintain the same standard of living. This is perhaps what you think CPI is.

What CPI Actually Is

The government changed the way CPI is calculated in the 1980s and 1990s. The government argued that if the prices rise, people would lower their standard of living by finding cheaper alternatives instead of trying to maintain it. CPI went from being a measure of “cost of maintaining the standard of living” to becoming a measure of “cost of living”.

Below is an overview of the changes that were made:

1.     Substitution: Items with soaring prices were replaced with cheaper (often lower quality) items in the basket of goods used for tracking inflation.

The government’s argument was, for example, if the price of steak increased, consumers would start eating Hamburgers instead.

 2.     Weightage: The government argued that people would limit the use of the items that got too expensive. Therefore, more expensive items should be weighed less in the calculation of CPI. 

Health care costs are rising rapidly. People avoid seeing a doctor when sick because they can’t afford it. This is reflected in CPI by lowering the weight of health care costs in the CPI calculation.

From 1996 to 2016, CPI increased by 55% whereas health care costs increased by more than 100%.

3.     Quality Adjustments: It may cost a student the same to buy a laptop this year as it did last year. But the government uses a hypothetical lower price in the calculation for CPI. The government uses nebulous models to estimate the cost of newly added features and subtracts that from the actual price.

ShadowStats.com shows the difference in current CPI (in red) versus what the CPI would be based on the pre-1980s method of calculation (in blue).

Actual inflation is about 4X higher than that reported by the government.

Why Does Government Like Low CPI?

Below are just a few reasons why the government wants to keep CPI low:

1.     Reduce Social Security Payments: US government is required to adjust social security payments with the cost of living by a 1973 legislation.

The current social security liability of the US government is $21 Trillion. Total US federal tax revenue is $2.4 Trillion. US government is broke. Fudging CPI helps the government reduce social security payments to a fraction of what it should be.

 2.     Increase Taxes By Stealth: US federal budget deficit is $2.8 Trillion. The government desperately needs more revenue. Increasing taxes is political suicide.

Every year IRS adjusts tax brackets with CPI. The government push people in a higher tax bracket without paying the political price by keeping CPI artificially low.

3.     The Illusion of Economic Growth: GDP is reported in inflation-adjusted terms. Artificially low inflation helps the government boost GDP numbers. That gives an illusion of economic prosperity and justifies their re-election.

ShadowStats.com compares GDP growth adjusted with current CPI (red) with CPI as measured by the pre-1980s method of calculation (blue).

GDP growth is negative when adjusted with realistic CPI.

If you were a politician, how nervous would you be about your voters becoming aware of this?