When I report on the consumer price index (CPI), I often say that it is likely understated.  It is impossible to get an accurate number when it comes to consumer price inflation because there are so many variables.

Products and services change constantly, and the supply and demand for those goods and services also changes constantly.  The size and quality can change.  The amount used by consumers changes, and not just because of price.  There are also government regulations and taxes that can impact prices.  Also, different people consume different things.

If one person makes a living driving around, then the price of gas will impact this person disproportionately.  For someone who works at home and doesn’t drive much, then the price of gas doesn’t matter much, at least not directly.

There are also issues of weighting.  One of my criticisms of the CPI is that it doesn’t seem to capture the importance of certain goods and services.  For example, insurance costs have risen quite a bit.  One of the few things that has actually gone down in price is certain electronics.

Let’s say the price of car insurance has gone up 10% over the last year.  Meanwhile, the price of televisions has gone down by 10%.  But I haven’t purchased a big new television in 13 years.  And if I do purchase one, it will be for under $1,000 and will probably last me another 13 years.

I have to pay for car insurance every 6 months.  For some people, maybe their policy renews once per year.  The car insurance is more expensive than a television, and it is an ongoing expense.  So to compare these two items is impossible.  You can see the problem with the index.

It is still useful to attempt to measure price inflation.  The government statistics are useful to look at the trend.  Even if they are understated, the trend tells us a lot as long as nothing drastic changes in the makeup of the calculation.

Overestimating Price Inflation

Some Austrian school economists and libertarians like to cite Shadow Government Statistics (shadowstats.com), which estimates consumer price inflation supposedly using the same methodology as what the government used in the past.

I believe there is little basis to rely on these numbers, and they seem wildly high.

If you look at a chart posted at the website of the consumer price inflation using a 1980-based alternate, you can see that price inflation using the ShadowStats method was around 10% since 2008.  There are some years higher and some years lower, but most years are near the 10% line with the exception of the last couple of years, which are much higher.

To say that we have had roughly 10% price inflation annually for the last 15 years is to make a statement that seems wildly contradictory to what most people see in their daily lives.

The Rule of 72

The Rule of 72 is used for investing.  You can take the number 72 and divide it by the interest rate (or investment return).  The result is the approximate time in years it takes to double your money.  So if you have an investment rate of return of 8%, then it would take about 9 years for your investment to double at that rate, assuming all returns are reinvested.

The same formula can work for price inflation.  If prices are going up at about 10% per year, then prices will double after about 7.2 years.  If prices double again in another 7.2 years, then that means they have more than quadrupled in 15 years.

You can also do this with a calculator or and Excel spreadsheet.  Start with $100 and multiply it by 1.1.  Do that 15 times.  After 15 years, $100 becomes $417.

Compounding interest works well for wealth building.  It unfortunately also applies to price inflation.  Your price inflation this year is on top of the price inflation from last year.

Have Your Prices Quadrupled Since 2008?

There are some major areas in life that have definitely more than doubled in price.  Car insurance and homeowners insurance are two areas where some people have seen a more than doubling in the last 15 years.  Medical care costs for some people have more than doubled.  There are certain food items that have probably doubled in the last 15 years.

I can’t think of much, if anything, that has quadrupled.  Housing prices haven’t quadrupled in most areas.  Rent hasn’t quadrupled.  I buy eggs a lot, and they have gone up a lot in price.  But they are not four times as much as they were in 2008.

Therefore, I can safely conclude that we should ignore the ShadowStats website.  Maybe it is an interesting website and has some good insights about protecting against inflation.  But for any claims it makes against government inflation statistics, it is also wildly unrealistic.  Prices are not four times higher for most things than they were 15 years ago.  Most things are nowhere near that.

It is good to question government statistics, but we have to be careful in the alternatives as well.