Why Official Inflation Can Seem Too Low | The Professor Is In

Justin Wolfers (0:00)

The costs that businesses pay have risen 6.3 percent. The costs of inputs, that's not including wages. So their input costs have gone up quite dramatically. Your input costs can't keep going out forever without the prices you charge going up. And the most likely resolution would be that if your input costs are rising, then that's going to lead to price rises, so inflation will start to move towards the PPI. That would be very dangerous, the PPI is at 6.3 percent.

Augusta Chapman (0:27)

Inflation numbers are out, and they are worse than we thought.

Justin, you published a piece this week about the September inflation report. This is the last one before the election. Prices rose 3.7 percent over the past year. That's hotter than Wall Street expected. And core inflation looks stuck at around 2.6 percent. Paychecks are also falling behind, so people are able to buy less with what they have.

You also said that this report turned the October Fed meeting into a coin flip. The market's odds of a rate hike before the election doubled from 22 percent to 44 percent. Today, I have several follow up questions for you from our audience. I'm Augusta. I'm a producer here at Platypus Economics.

Justin Wolfers (1:06)

And I'm Justin Wolfers. I'm an economics professor. And you should think about this as office hours when Augusta brings me your questions. Augusta, welcome. Come on in. Take a seat. What's on your mind? How's class going?

Augusta Chapman (1:20)

Well, I'm going to start with the question that most of our audience had.

And people phrase this with various levels of outrage. I'm going to go in with a nice version, which is prices feel like they've gone up way more than 2 percent and 3 percent. People feel like they're absolutely underwater in these prices. How is it possible that inflation is only at the numbers that this report is showing?

Justin Wolfers (1:44)

Good question.

Hard question. Important question. So first of all, I want to be clear. I believe the numbers. I think this is an accurate measure of what's going on out there.

The way we measure this is actually more complex than you might think. You might think, oh, what we have to do is figure out a typical person's grocery bill and then go and buy the same stuff every month. What happens next month when they're sold out of strawberries? What do we do when the old iPhone is no longer for sale and the new iPhone is for sale? What do we do with the fact that some prices rise in winter and others rise in summer, all of that? So many, a lot of complexity underneath it all. But I think is all boiled down to the best expert consensus of how to measure changes in the cost of living. So I'm going to look people in the eye right now and say, I believe the truth is the cost of living for the typical American rose by 3.7 percent over the past year. I said typical, you could look at particular people who buy different stuff. For instance, Augusta, you don't have a car. You therefore care less about the price of gas. The price of gas has gone up enormously, so the Augusta inflation rate is probably a little lower. I live in the state of Michigan. We drive everywhere. It's a point of pride. Therefore, you might think that the Justin inflation rate is a little bit higher. But I also want to urge people to, every time we dig into things like that, you can do this sort of analysis fairly seriously. It's not really the whole story. The reality is, on average, it's around about 3.7. And if what you wanted to do was say, it's sort of somewhere between three and four and a half, depending on who you are, that's what it is. And the sense of outrage, I imagine, you're hearing from people is, they think it's much, much worse.

Let me give you a couple of things that are worth thinking about. There's good evidence that people are particularly responsive to the most salient prices. So, gas prices. Gas prices are literally six feet tall, and you drive past them all the time. You don't miss them. And there's good evidence that people's perceptions of the state of the economy and the cost of living rise and fall with gas prices. But do you know what I spend more on each year than gas?

Health insurance.

Do you know what the price of my health insurance is?

Augusta Chapman (4:11)

Scared to know.

Justin Wolfers (4:12)

Truth is, I don't know.

Because it's not a six-foot tall number. It's a quiet deduction taken out of my paycheck. And I don't look at my pay stub every month. I know I should. Don't yell at me. But it's always boring. But that's a much more important thing for the cost of living. So most salient is always gas. Second most salient is groceries.