… inflation is well under control: wages aren’t taking off, the labor market is weak, and once oil and food price spikes end we’ll be, if anything, in a deflationary environment… I don’t think there’s any fundamental inflation problem, just a one-time hit on food and energy.
and posts the following chart on correlations to show that it really is different this time:
has a very interesting chart which may explain why it doesn’t feel as if inflation is contained, and asks “Is the GDP deflator plausible?”
Four quarter inflation rate for GDP deflator (blue) and gross domestic purchases (red), calculated as 4 quarter log difference. NBER-defined recession dates shaded gray. Source: BEA GDP release of 31 July 2008, and author’s calclulations. Figure 1 highlights how the inflation rate for what we buy has accelerated over rates for what we make.
The way I read this is that the purchase deflator is consistently running ahead of the production deflator, except for a brief period in the 2001/2 slump, and since mid-07 they have completely diverged. The other term for a price change which deflates what you export/sell and inflates what you import/buy is a terms of trade shock. I suspect that the US middle class is experiencing just that on a personal level.
James Hamilton at EconBrowser further between “inflation” – which only describes what is produced locally – and let’s call it “purchasing power” – which includes the imported things I also buy – in a way that even I can understand it, ie. with coconuts and oil.
In 2007, Islandia produced 500 coconuts, which residents sold to themselves for $1 each, and imported 1 barrel of oil, which cost $100… Nominal GDP in Islandia for 2007 was $500. If you wanted to describe that in real terms, you’d call it 500 coconuts. You don’t count the oil in either nominal or real GDP because Islandia didn’t produce any oil…
Here are the numbers for 2008. We grew 510 coconuts, sold them for $1.01 each, and still imported 1 barrel of oil, paying $125 for it. So nominal GDP was $515.10 (a 3% increase) and real GDP was 510 coconuts (a 2% increase). The change in the implicit GDP deflator would be the change in the ratio of nominal GDP to real GDP, namely, +1%…
But wait a minute, Islandia’s pundits decry. How can your crummy accounting claim that inflation was only 1%? Last year we bought 500 coconuts and 1 barrel of oil for $600, but this year if we tried to buy the same thing it would cost us $630. The inflation rate, they tell you, is obviously 5%, not 1%.
Now I understand. But since I buy at least some imports every year my purchasing power is not even meant to be described by the “inflation” number. So TIPS aren’t really going to do me any good are they. What I need is a “purchasing power” protected bond. Likewise, if I want to know if my wealth is growing in “real” terms it does me no good to compare it to inflation – a production basket which only includes part of what I need to buy.