Price Inflation

The Happening

Riding high on top of the world, it happened.

Suddenly it just happened,

I saw my dreams torn apart

Something happened to prices during my lifetime. Rather than just being a cranky old man and complain about it, can examining the data suggest what happened?

Can you imagine a 5 cent candy bar? If you were born in 1951 like I was, you probably not only can imagine it, you can remember it. Before I entered college in 1969, prices were fairly stable. My first new car cost only $3,000. Something has happened to prices since that time. Looking at the data might help understand when, and why, something happened to prices.

The U.S. Bureau of Labor Statistics reports the Consumer Price Index (CPI) , which is often used to track inflation, from 1913 to the present. It is often indexed to a specific year. When the annual CPIs (with an index of 100.0 in 1984) are plotted, they take on a distinctive shape as shown below.

Doing a non-linear regression on that data, produces an equation whose values have a correlation of 0.9926 with the reported CPIs. The non-linear equation is essentially two straight lines with a transition between those lines somewhere between 1969 and 1975. Looking for a historical event that happened during that time period, that might have affected the CPI, and has remained in place since that time, suggests the Nixon Shock. In 1971, President Nixon ordered that the US Dollar, which was then the international reserve currency, no longer be convertible into gold. It had been not been convertible into gold for US Citizens since the 1930s, and this action seemed to primarily affect foreign governments, but that action remains in effect today.

If this was indeed the cause of the transition, this suggests that perhaps there are probably two transitions. One at the time of Bretton Woods Conference in 1944 when the US dollar (convertible into gold) was first made the international reserve currency. And then in 1971 when the US dollar remained as the international reserve currency, as it is today, but was no longer convertible into gold.

Fitting straight lines to the CPIs in each time period produces:

• A period before Bretton Woods, with virtually no CPI inflation
(an increase of 0.072 1984 CPI basis points per year. )

• A period between Bretton Woods and the Nixon Shock, where CPI inflation was modest
(an increase of 0.645 1984 CPI basis points per year) and

• A period after the Nixon shock, where CPI inflation was large
(an increase of 4.597 1984 CPI basis points year).

Using these three straight lines, you can compute values that have a correlation to the reported CPIs of 0.99931.

If you only look only at year to year inflation, which dropped from 11.0% in 1974 to 2.1% in 2017, you miss this underlying long term impact. The impact on inflation when a domestic currency is also used as the international reserve currency is known as the Triffin dilemma. https://en.wikipedia.org/wiki/Triffin_dilemma. An analysis of the reported CPIs, suggests that the dollar being the international reserve currency, especially when the dollar was no longer convertible into gold, has had a measurable effect, not just on the international economy, but on our daily lives.

The Difference between Means and Medians

Wonderful World

Don't know much about algebra,

Don't know what a slide rule is for

If you don’t understand math, then you may get talked into supporting some decisions that are not in your own best interest.

Teen Talk Barbie is right “Math is Hard”. But that doesn’t mean that you shouldn’t try to understand math. If you don’t understand some basic concepts of math, then you can get some unexpected results. One of those is that increasing the average, also known as the mean, does not make things better for the typical person. The average, mean, household income is total income divided by total households. The median household income, the income of the middle, is the income at which 50% of the households have incomes that are higher, and 50% of the households have incomes that are lower. When the median and the mean ( as well as another statistic called the mode) are the same, the name of that is a normal distribution. When their difference becomes greater, should that be called abnormal? To illustrate this, consider the Town of Duckburg, home of Uncle Scrooge McDuck.

In the town of Duckburg, 1,000 households have an income of $50,000 per year while Scrooge McDuck has an income of $5 million per year. The mean, average, income of all households is almost $54,945 per year, while the median, 50th percentile, income of the households is $50,000. The town is going to receive new income of $10 million per year but they have to decide how to divide this new income among the households in the town.

Scrooge says that his income is over 9100% of the mean income, so he should get most of that new income. However, he says that he wants to be generous, and suggests that he should only get 50% of that new income and the other $5 million should be shared among the rest of the households. This increases Scrooge McDuck’s income from $5 million to $10 million per year, while the other duck households increase from $50,000 to $55,000 per year. However, while the mean income increased by almost $10,000 to $64,935 , the median income only increased by only $5,000 to $55,000. The problem is that while Scrooge’s income was over 9100% of the mean income, it was only 9.9% of the total income of all households in Duckburg. To keep the income distribution the same, he and every other household should each only get a 9.9% increase in income. Not a 100% increase for Scrooge and a 10% increase for all other households. Since total income increases by 9.9%, if every household’s income had gotten an increase of 9.9%, including Scrooge’s, then the gap between mean and median income would not have increased.

Might giving most of the new income to Scrooge McDuck have been a good idea? Would he be more likely than most households to use that income to increase the economy, as supply side economics believes, where you accept becoming less equitable but possibly more productive? Maybe, but fans of Uncle Scrooge know the most likely outcome would be that Scrooge would only increase the amount of money in his vault, in which he will swim.