Privatization vs. the Public Good

Marc Lamont Hill succinctly describes the liberal Democratic platform in a single page in Nobody (2016) (paperback, pp. 177): 

The problem with this approach is that it ignores government's tendency to borrow, particularly from private banks. If tax revenues and other fees do not match the cost of services, especially when new services are needed, private banks provide the loans/bonds. In short, the "liberal" anti-privatization model renders government at state and local levels dependent on private banks. (It should not be surprising, then, that many have called America's Democratic Party the party of Wall Street, and its Republican Party the party of Big Oil.) 

I suppose one could argue "deficits don't matter" and render Congress's power of the purse into a literal money tree, showering all cities and states with interest-free loans. And yet, if governance could be so simple, why not make it even simpler and have Congress give all individuals money directly? Indeed, many have suggested the latter as the basis of UBI (Universal Basic Income), but the experiment has always been directed towards the unemployed or the neglected, perhaps assuming human beings prefer meaningful work over none at all. 

We have now arrived at the true difficulty at the intersection of commerce and government: creating meaningful jobs while avoiding excessive and uneven inflation. 

From local Los Altos, California newspaper (June 2019)
Every single state executive office is run by Democrats, from Governor to Insurance Commissioner.

Even ignoring, as Mr. Hill does, commerce's complex trade/security agreements with other nations and the trillions of dollars of debt these agreements assume, nowhere in his analysis of commerce does he make room for the ambitious, the persecuted, or the minority not agreeing with his definition of the "common good." And while it is true ambition often paves its way through artifice, there we can find government's true calling: protecting common people from the ambitious while creating an economic system bringing everyone together so as to prevent persecution as well as self-segregation. 

The problems of modern commerce are vast and complex, centering chiefly around unimaginative local governments favoring the tried-and-true, leading to uneven development, de facto segregation, then the very inequality Mr. Hill abhors. Private entities are not silver bullets against corruption, but history teaches us any entity suffering from a lack of competition--such as public jails or police departments--will eventually become corrupt or deficient. With respect to privatized jails, we have learned it is possible for the private to become as corrupt as the public without sufficient oversight of necessary adjoining agencies--in this case, ICE and police departments. Finally, if corralling commercial activity were so straightforward as prioritizing the public good over the profit motive, one wonders why the mafia or black markets exist at all. 

The first step to strengthening social cohesion is trust in government, which requires not only transparency, but an understanding that modern commerce is so complex, only cooperation at both the neighborhood and national levels will create viable solutions. States like Singapore are small enough to make the gap between neighborhoods and their national Parliament a short walk, while countries like Norway have such small populations, a gap between their capitals and outlying regions can never become too great. America, like Russia and China, possesses none of these advantages and must work harder to prevent a police state from taking over completely in the name of the public good. As an American resident, I am confident most Americans favor the public good, but less so when it comes to the hard work and humility in getting there. 

© Matthew Mehdi Rafat (2019) 

Bonus I: when academics without a direct understanding of law and economics talk about the "profit motive," almost every criticism as applied to corporations could be applied to the mafia, which operates across borders using the singular method of violence--a tactic corporations cannot use. (Unlike your local loan shark, Wells Fargo or JP Morgan cannot send someone to break your legs if you default or declare bankruptcy.) 

GQ article by Alex Hannaford (June 2019)

Instead, multinational corporations must contend with three or four layers of overlapping jurisdictions, a level of red tape making it easier for governments, whether liberal or conservative, to demand ever-escalating payments, legal fees, or bribes to do business and to bring consumers more choices. When such choices are made without any regard to long-term planning, chaos results, causing critics to blame the profit motive rather than the target government's poor vision. Thus, the better arguments against corporate power revolve around short-termism (i.e., short term profit motives) and lobbyists' efforts to insulate corporations from accountability or transparency (i.e., giving corporations the same qualified immunity as some government agents). 

Bonus II: while we're on the topic of overlapping jurisdictions, let's review why such a dynamic exists. First, redundancy. If a local police department is overwhelmed (think riots), it needs to be able to request additional personnel. A local entity prepared for all worst case scenarios will bankrupt local government or deprive cities and counties of much-needed social and other services, eventually guaranteeing a repressive police state. (Mr. Hill himself explains this exact issue in discussing Ferguson, Missouri.) 

Second, local entities represent local citizens, who may have different needs and wants than national representatives. By forcing national and multinational participants to adhere to local regulations, cities and counties can shape their own destinies--up to a point. (Justice Louis Brandeis' shorthand term for this interplay is "laboratories of democracy.") 

Third, if a local entity is corrupt (think Mississippi Burning (1988)), a local resident has no recourse but to appeal to an outside authority having jurisdiction. 

In short, overlapping jurisdictions were not designed to promote complexity for the sake of complexity, serving an unnecessary expansion of law school and academic influence, nor to allow looser federal purse strings to wedge themselves between police departments and local residents.

Bonus III: democracy is hard to successfully implement over long periods of time, and even harder the larger the geographical area. A blue collar worker in Kansas, absent some respected intermediary, may have nothing in common (except language) with a software engineer in California. The idea of a common language is to establish respected intermediaries, such as journalists (think Charles Kuralt, Studs Terkel), to bridge the gap and help form a national identity, but of course language can manufacture social dissolution just as well as social cohesion. 

It may be the case that a 5 to 7 days workweek is inimical to a well-functioning democracy by not allowing enough voters sufficient time for study and contemplation. And yet, one can be certain a majority of contemporary American adults, most of whom had ineffective public school teachers, would spend their additional free time on less-than-edifying activities. Is it any wonder, then, that America has become the land of the distracted, home of the vested interests? Why would a minority or immigrant with options choose such a place? And how have less developed areas, which preserve local agency through national neglect or capitol corruption, attained the very character wished upon us by our most educated and most sincere? 

OECD Inflation

Here's a worrying chart from Bloomberg, but it's incomplete.  Can you figure out why?

Without knowing how much of the inflation is organic or due to debt, and what kinds of debt (government, small business, consumer, auto, education, etc.), the chart is only useful as a singular snapshot.

So many problems today arise from people being unable to see data in context.  As economic transactions have become globalized and therefore more complex, data gatherers and writers are still too specialized.  There is almost no one who can put data in proper context, and so we stumble along, convinced that resolving x will be the cure when x is only one part of an ecosystem we generally don't understand.  

Rafat's Law: Inflation Elasticity

I've realized laws designed to control externalities and systemic shocks--such as banning secondhand smoke, anti-pollution regulations, or requiring certain levels of retrofitting in earthquake-prone areas--are necessary, while most other laws merely impose social values from elites onto the rest of society, transferring power to lawyers and politicians rather than individuals.

Laws favoring transparency in government are also necessary, though we've learned in America that transparency tends to come from whistleblowers rather than voluntary compliance (See Daniel Ellsberg, Edward Snowden, etc.).

Economic "laws" are the most important, but are usually backwards-looking and therefore inadequate for future reference, especially in a globalized economy with many moving parts.  Yet, as long as the data economists rely upon is relevant, recent, and relatively constant within a specific time period, economic "laws" may help establish the groundwork for further discussion.

I've tried for years to articulate an economic "law" I understand intuitively but cannot explain well.  It deals with the social response to an increasing gap between expected wages, debt loads, and essential services/products such as housing, healthcare, food, and transportation. Economic "experts" don't seem to separate essential vs. non-essential items when evaluating the inflation trajectory of wages and costs.

For example, getting an education costing 5K may not seem like a great deal if minimum wage is $3.50/hr, but it's still within reach. (Tara VanDerveer can still afford to go to college even she's not from an affluent family and eventually land a prestigious coaching job.)  If that same education, with new and fancier departments at the same college, costs 10K when the minimum wage is $7/hr, it's not as good a deal even though we've doubled both the cost and the wages.  In other words, the doubling of wages and costs should produce the same or similar results, but we're seeing that it does not. (Rafat's Law of Inflation Inelasticity: manipulating general wages by fiat to provide more equal opportunity does not solve the price inflation problem because the cost of essential items in modern society is often so much higher than wages that any rise in wages typically causes additional price inflation. Such price inflation relative to wage inflation increases at unsustainable rates due to the high starting price point, low starting wage point, and the compound inflation problem.)

Worst of all, some higher costs, such as education, divert disposable and other income from tangible goods--especially tangible goods that may be transferred at lower values to other buyers if the initial purchase doesn't work out as expected. (You can transfer a paper book to someone else or sell it at a lower price to a used bookstore, but a Kindle selection is worth something only to you.)

Sorry, Warren Buffett--we live in interesting times. 

As the economy moves from tangible goods to services (e.g., data retention, secure networks, Wi-Fi reliability, etc.)--which cannot necessarily be transferred to new owners without modification--it encourages monopolies.  Competitors tend to use the same dominant platforms in the intangible economy and enter as "add ons" rather than something new or within a new ecosystem. No economic theory has explored this new paradigm.

Additionally, inflation in one area that is uneven has effects on more elastic wages and costs, especially as more and more economic activities depend on each other's growth.  Inelastic inflation means some prices such as tuition always increase, even if wage and job growth is uneven or elastic. Yet, one major reason for inflation elasticity is that higher costs in some areas, like tuition, tend to reduce well-paying jobs in that profession relative to unsubsidized tuition costs while solidifying power in the existing legacy group--at least in a democratic political system. Such a phenomenon typically leads to a greater reliance on debt or non-organic sources to spur job growth, adding an unpredictable new factor to an already complex inflation situation.

In short, prices and costs in some areas, such as U.S. tuition and tenured professor wages, are inelastic in the sense they do not experience deflation (though reduced enrollment may occur) because of political and legal support; in contrast, prices and costs in other areas are generally elastic even if an upward trend exists in the long term.

If elasticity in Sector X increases dramatically while inelasticity applies to Sector Y, backlash and social cohesion will occur.  If debt is used to mitigate the gap's effect between the elastic and inelastic sector, further distortions will occur, which are unpredictable to the extent the debt's gains don't flow equally or equitably (see election of Trump).

I don't know the solution to the above problem, but I don't want to have to explain it before we can start a discussion.  I call it "inflation elasticity" for now, but perhaps someone else can explain it better.

Bonus: Another common problem should have a shorthand name. When organizations are small, it is easy to hire likeminded people who interpret regulations and rules similarly. Predictability is almost assured, which leads to better compliance and mutual respect.

As organizations and the output they examine increase in number and complexity, enforcement is handled differently based on different fact scenarios, leading to different results based on arbitrary factors (e.g., which judge or case officer is randomly assigned, etc.).  Dissatisfaction is sure to increase.  As outcomes diverge, the system itself leads to distrust--the exact opposite outcome it was designed to create.

At that point, a leader has to decide how to manage his or her "troops."  If s/he orders them to comply with a singular or non-discretionary interpretation, s/he will fail because no method exists that covers all possible fact scenarios and permutations; at the same time, doing nothing will lead to sustained divergent outcomes, causing more distrust.  If the costs related to such a system continue to increase, regardless of reform or increased consistency, dissatisfaction and distrust will become contempt.

For this reason, almost everyone who grows older begins to appreciate the value of "small" while lamenting "small's" inability to expose its inhabitants to full knowledge and diversity of experience. Yet, I have seen nothing that teaches me how to solve the problem of trust and "big" without resorting to mindless enforcement that doesn't consider relevant differences.

Update on June 2017: my first "law" is explained here: http://willworkforjustice.blogspot.com/2009/04/rafats-law-of-diversity.html 

Random Thoughts: Inflation, Housing, and Marriage

A.

1. The more government spends, the higher the risk of inflation.
2. The higher the risk of inflation, the more likely that prices go up.
3. When prices go up, essential items such as food and housing cost more.
4. When housing costs more, it becomes more difficult for an individual to buy a home.
5. Most individuals prefer to own a home before having children.
6. Most individuals prefer to own a home soon after getting married.
7. When the government makes it more difficult for single adults to buy a home, the most responsible ones among them will delay marriage and children.

[#7 assumes that most individual adults will have either little or no parental financial support when buying a home. It may be more defensible to change "single adults" and "individuals" to "single immigrants," who are probably less likely to be able to rely on parental financial support.]

B.

1. When prices go up, various items may become unaffordable for many families.
2. When prices go up, many families will have to use credit to finance a purchase.
3. The more expensive a product, the more likely a person will rely on credit.
4. Wall Street relies on credit. Without credit, Wall Street would probably have very little influence over the average person's daily life.
5. If you are against Wall Street and big banks, you should also be against credit.
6. If you want to minimize the use of credit, you should oppose rising prices.
7. When any large entity distributes large amounts of money to any area, it tends to increase prices in that area.
8. Government is a large entity that distributes large amounts of money to various areas.
9. The less government spends, the less likely it is to cause inflation and therefore rising prices.
10. Therefore, people who are against Wall Street and big banks ought to oppose increases in government spending.

Update: see link HERE for more on this topic. 

Random Thoughts: On Elitists and Inflation

"Liberals" and Democrats like to argue that poorer Americans vote Republican because they are misled by rich people and corporations. (See Frank Thomas's What's the Matter With Kansas, which argues that conservatives have manipulated poor people into voting for the GOP and against their own self-interests.) This smug, self-serving thesis puts liberals in a position to "help" the poor, usually through more government programs.

In reality, poorer people vote based on their economic circumstances and tend to focus on economic issues because they know the value of a dollar. In contrast, rich people's life experiences tell them that money is abundant and can be spent and created again. For example, blue state residents tend not to be offended when the federal government prints money and puts their grandchildren in debt. Unsurprisingly, West/East coast liberals (blue states) have higher salaries and earnings than Midwestern and Southern conservatives (red states).

The problem is that the perception of money as an easily renewable resource leads to inflationary policies that create higher costs of money for those on the lower end of the income scale who tend to be net borrowers of money, not lenders or large savers. (Printing more money also causes the devaluation of the dollar, decreasing the purchasing power of the poor, but that's a separate and more complicated issue).

Also, poorer people intuitively understand that injecting more money into something causes inflation. For example, if you pay LeBron James more, the cost of NBA tickets increases, because the owners have to make more money, and most businesses make more money by raising prices. For poorer people, inflation tends to show up in higher prices, making it more difficult for them to buy things (like a good seat in an NBA game).

Another example: it's much easier for poorer people to buy a decent house in a decent neighborhood if a house costs 100K and the median price is 150K, than if a house costs 400K in a neighborhood where the median price is 600K. Think about why house prices tend to be so much higher on the coasts compared to the Midwest and South, and why someone in the Midwest or South wouldn't want his/her children to pay 400K to live in a decent neighborhood. (Why increase the cost of living in a decent neighborhood if you don't have to?)

Rich people, unlike poorer people, tend to be the beneficiaries of inflation--when it happens, their salaries go up along with prices, so they notice no changes or believe they are doing even better. (Think about it: 80% of Americans would never pay $650,000 for a 4 bedroom, 2 bathroom house in a so-so school district, but rich people in the Bay Area do this all the time and rely on continued inflation to increase their home's value.)

Bottom line: if you don't have much of something, it becomes more precious to you, and you can't stand to see too much of it being used or spent. Generally speaking, abundance mitigates caution and tends to cause inflation. Inflation tends to be bad for poorer people and good for some people, especially educated and affluent people. Therefore, poorer people tend to vote for fiscally conservative candidates because they want to keep their costs low, and they intuitively understand that more money tends to lead to higher prices.

Bonus: historically, the Democrats have favored bigger government. Well, big government costs money, and paying government workers higher salaries and expensive benefits costs money, and they both cause inflation. Inflation hurts poor people. Ergo, in most blue states where Democrats have controlled the legislature for long periods of time, it is harder for poor people to buy homes, afford to live in decent neighborhoods, etc. It's really interesting that anyone would actually think that the Democrats help the poor when it's harder in most blue states for a family making 30K to buy a home and be debt-free than it is for the same family in most red states.

Bernanke's Fed

I know people were going gaga over Bernanke's WSJ article, but I hope everyone realizes they can get better material directly from the Fed's website.

Bernanke's Fed seems more transparent than Greenspan's Fed. I don't remember seeing as much information on the Fed's website several years ago. Anyway, here are some interesting excerpts from the Fed's most recent minutes:

Consumer price inflation was fairly quiescent in recent months, although the upturn in energy prices appeared likely to boost headline inflation in June.

Real personal consumption expenditures rose somewhat in the first quarter after falling in the second half of 2008, and available data suggested that spending was holding reasonably steady in the second quarter.

The fundamental determinants of consumer demand appeared to have improved a bit: Despite the ongoing decline in employment, real disposable personal income rose in the first quarter and posted another sizable gain in April as various provisions of the American Recovery and Reinvestment Act of 2009 boosted transfer payments and reduced personal taxes. In addition, equity prices recorded substantial gains in April and May, reversing a small portion of the prior wealth declines. Measures of consumer sentiment, while remaining at levels typically seen during recessions, improved markedly from the historical lows recorded around the turn of the year.

The steep decline in the demand for new single-family houses seemed to have abated....The apparent stabilization in housing demand was likely due, in part, to the improvement in housing affordability that resulted from low mortgage rates and declining house prices.

Although recent increases in oil and other commodity prices were likely to raise headline inflation over the near term, most participants expected core inflation to remain subdued for some time...A few participants were concerned that inflation expectations could continue to rise, especially in light of the Federal Reserve's greatly expanded balance sheet and the associated large volume of reserves in the banking system, and that as a result inflation could temporarily rise above levels consistent with the Committee's dual objectives of maximum employment and stable prices. Most participants, however, expected that inflation would remain subdued for some time...The prices of energy and other commodities have risen of late. However, substantial resource slack is likely to dampen cost pressures, and the Committee expects that inflation will remain subdued for some time.

Interesting stuff, no? It looks like the Fed is cautiously optimistic. Surprisingly, inflation doesn't seem to be a major concern.

"Capitalism without failure is like religion without sin."

On seekingalpha.com, my Madoff article has attracted the second most comments. I've added a comment of my own, which I share below:

I've read all of your comments with the hopes that our outrage will prevent another ill-advised bailout. Carnegie Mellon economist Allan Meltzer once said, "Capitalism without failure is like religion without sin." In other words, capitalism doesn't work unless we allow losers. Having losers creates two positive outcomes: one, it shows others what doesn't work (in this case, not diversifying or not doing due diligence when investing); and two, it creates shame--a powerful motivator--by warning others that bad actions lead to real consequences.

A Madoff bailout would be particularly harmful to capitalism as a whole, because it would pervert it into a tool for the rich and well-connected. I called the WSJ article propaganda because it focused not on the investors who made substantial returns over the 25+ years of investing with Madoff, but on charities and the elderly. Thus, it was deliberately designed to pull on our heart-strings for a class of people who are generally well-off.

The real victims are non-Madoff investors who will suffer diminished returns from their mutual funds. Their mutual funds hold companies like UBS and other entities that invested with Madoff. No one will be bailing out these Main Street investors, but they are the real victims. Yet, all the attention is being given to Madoff's investors, who are a highly exclusive group of hedge fund investors and investors who failed to diversify their investments.

In the end, a bailout is wrong because it would cause the transfer of wealth from people America should support rather than penalize. Basically, rather than reward people for making wise decisions or providing utility to others, a Madoff bailout ensures that Main Street will continue to suffer for bad decisions made by the rich and investors who failed to diversify.

If we wish to serve as a non-exploitative economic model for the rest of the world, we must allow some failure. We must not allow well-connected investors to make bad decisions and then escape the consequences because of their friends in Congress, on Wall Street, and in the Dow, Jones & Company publishing firm.

More important, if we want the U.S. dollar to continue being the world's reserve currency, then we must ensure the rich as well as the poor suffer the slings and arrows of bad decisions. The alternative is printing more money, which will lead to inflation, and reduced stature.

The Big Picture (apologies to Barry Ritholtz)

The stock markets went up substantially today and yesterday because the Fed cut interest rates to 1%. Interest rate cuts usually cheapen a country's currency, lower the available interest rates for CDs and regular savings accounts, and make commodities, like oil, more expensive. Thus, the joy of seeing your stock market gains should be tempered by the fact that in real terms, if you are a saver, your chances of losing to inflation have increased dramatically. One valuable lesson I've learned from the recent turmoil is to increase exposure to commodities if I know the Fed is going to cut interest rates. I had done so indirectly by investing in a Brazilian fund and it is now paying off handsomely--at least today. Who knows what tomorrow will bring? I had also recently invested a small amount in TIP, which may help as a hedge against core inflation.

As for directly saving, I had hoped to buy an ING 4.25% CD, but apparently Washington Mutual (now JP Morgan) places a five day hold on any transfers. The 4.25% offer still exists, and I am hoping ING maintains it, at least until tomorrow, when my transfer money is available.

Call me a young curmudgeon, but all of this strikes me as folly. The reason we got into this mess is because Greenspan lowered interest rates to 1% and held it there for too long, and now, to correct the problem caused by the lower interest rates, we are going to lower interest rates to 1%--the exact same action that got us in trouble in the first place. I can't help but think of the old saying that insanity is doing the same thing over and over again and expecting different results. We better pray Bernanke is good at timing the economy and will raise interest rates as soon as possible. Otherwise, we might be in for another pop in a new bubble five years from now.

Frederic Mishkin Defends Core Inflation

Frederic Mishkin, a former Federal Reserve Board member, wrote a WSJ opinion piece defending the core inflation measure. I've called core inflation a useless, misleading number:

http://willworkforjustice.blogspot.com/2008/08/inflation-revisited.html

I was eager to see how Mr. Mishkin would defend a statistic seemingly designed to insulate the government from macroeconomic criticism. Mr. Mishkin's article is below:

http://online.wsj.com/article/SB122169336538749851.html

To his credit, Mr. Mishkin intelligently argues that the Fed must maintain a "nominal anchor," and food and gas prices (what he refers to as "headline inflation") fluctuate too much to maintain a steady beacon.

As any statistician knows, however, there are ways to mitigate the extremes in any number sample. The Dallas Fed Reserve does just that by publishing "trimmed mean" figures, which are basically inflation numbers sans the extremes on either the high or low side. Mr. Mishkin provides a good defense of core inflation in principle, but I am still not convinced. A "nominal anchor" isn't going to provide any predictability if everyone knows the real numbers are much different than reality. Numbers need to have credibility first. That starts by acknowledging inflation numbers should include items most Americans use daily, such as food and gas prices.

Inflation, Revisited

Earlier, I wrote an article about how "core inflation" numbers understate real inflation. See

http://willworkforjustice.blogspot.com/2008/07/real-inflation-trimmed-mean-pce.html

T. Rowe Price just published an article in the "T Rowe Price Report" supporting my argument that "core" inflation is a fallacious statistic. See Alan Levenson, "Food, Energy Costs Spur Inflation Fears." No link available, as far as I can see right now, but here are some snippets:

Indeed, the CPI posted a year-to-year inflation rate of 4.9% in June...in contrast, inflation in the so-called "core" CPI, which excludes food and energy, was [recorded as only] 2.4%...higher inflation will become the most potent threat to growth.

In other words, "core" CPI is not accurate, as I explained earlier.

An interesting tidbit: Mr. Levenson said in 2007 he believes the Fed Reserve will keep rates steady all year; however, it sounds like the Fed needs to raise rates to combat inflation.

Real Inflation: Trimmed Mean PCE

It looks like the real inflation rate in May 2008 was 5%. See

http://dallasfed.org/data/pce/index.html

The United States still uses a grossly fallacious measure of inflation called, "core inflation," which excludes food and energy prices. This "core inflation" is reflected in a widely-used metric called the CPI, or Consumer Price Index. Using CPI numbers that exclude food and energy, if a tomato goes from 80 cents to 5 dollars each, but a Dell laptop gets cheaper by 100 bucks, the CPI would indicate that overall inflation was going down--which would be inaccurate. Thus, as a statistic, most "core" CPI numbers bring to mind the comment about "lies, damn lies, and statistics."

The Dallas Fed Reserve has bucked this misinformation trend by publishing a more accurate inflation statistic called "Trimmed Mean PCE," which includes energy and food prices. The Trimmed Mean PCE (personal consumption expenditures price index) more accurately reflects the real rate of inflation is because a) it usually includes food and energy prices; and b) it trims, or cuts, unusual numbers that are indicative of generalized noise rather than a long-term inflation signal. The United States' continued use of certain CPI numbers over a more inclusive indicator of inflation means that it is misleading the public, which still has not fully grasped how much money America has printed recently for extraneous expenditures.

For example, if annual inflation is at 4%, and your assets increased by 3%, you lost purchasing power. Money, after all, only has value because it is a means to buy things. If your ability to buy things decreases in the real world, even though the quantity of your money increases, you have fallen behind. America is currently experiencing about 5% inflation while the stock market has caused many portfolios to decrease by 10%, a double whammy. 5 dollars a gallon gas is just one obvious indicator of how massive federal expenditures have harmed the American Dream and Americans' ability to plan ahead financially. Still, if you look at most government figures for CPI, the government's numbers appear understated. The Fed Reserve is telling us that inflation is running at 4.2%, including food and energy, and 2.3% excluding food and energy. See CPI-U for 12 months ending May 2008 (link goes to PDF file):

http://www.bls.gov/cpi/cpid0805.pdf

But the Dallas Fed Reserve believes that inflation is running at 5%. Even the Fed Reserve member banks cannot get their story straight. Using several conflicting CPI numbers allows the federal government to keep printing more money, destroying its real value in the process, and then telling the public everything is okay and the government is properly evaluating inflation. Using a more focused, more accurate indicator of inflation would force the government to be more prudent in its expenditures. The public should be able to log onto the BLS website and get one or two numbers showing real inflation, instead of fifty different numbers. Other figures may still be listed on the government's website, but currently, there is no quick or obvious link to any PCE figure showing real inflation for the month of May 2008. Without such numbers, savers and workers cannot plan ahead to see how much they have to earn to maintain their standard of living.

Without accurate and easily accessible inflation information, a reckless government will print money to satiate the public in bad times, which allows the government to hide failed or short-sighted policies. The Medicare scheme is one such example of a failed government policy that is not being fixed partly because the government can mask the true cost of printing money in a barrage of irrelevant CPI statistics. As a result of public ignorance, the government can delay a real solution to Medicare's underfunded trillion dollar liabilities because it has the political go-ahead to print money to pay benefits if necessary. But, as one of my favorite quotes goes, "a few billion here and a few billion there, and pretty soon, you're taking about real money." That "real money" is the real value of money that savers have toiled to earn, and without more accurate inflation numbers, the United States makes it harder for its citizens to plan ahead and to justify delayed self-gratification.

There is one other interesting side note--the U.S. issues TIPs, or Treasury Inflation Protected Securities. These bonds are linked to inflation as measured by the "core" CPI numbers. These are very popular bonds, and the government may continue to issue billions of dollars' worth of them. As a result, the government has less incentive to shore up its CPI numbers, because doing so means it has to pay more money to the buyers of these bonds.

At the end of the day, a melange of irrelevant CPI figures favors spenders over savers because the more inflation statistics the government publishes that are irrelevant or not fully accurate, the easier it is to shield the public from the true consequences of government spending. The Federal Reserve should heavily advertise only a few inclusive inflation numbers and consider eliminating CPI, especially when PCE offers a more accurate inflation rate.

Update on July 11, 2008: according to my T Rowe Price newsletter, "inflation, as measured by the Consumer Price Index, was up to 4% for the one-year period ending March 31, 2008...U.S. inflation has historically averaged 3.1% for the 80-year period from 1926 through 2006."

Richard Fisher Understands the Real Enemy...Inflation

We know from centuries of evidence in countless economies, from ancient Rome to today's Zimbabwe, that running the printing press to pay off today's bills leads to much worse problems later on. The inflation that results from the flood of money into the economy turns out to be far worse than the fiscal pain those countries hoped to avoid...

Inflation is a sinister beast that, if uncaged, devours savings, erodes consumers' purchasing power, decimates returns on capital, undermines the reliability of financial accounting, distracts the attention of corporate management, undercuts employment growth and real wages, and debases the currency.

--Richard Fisher, Dallas Fed Reserve President and CEO

http://www.dallasfed.org/news/speeches/fisher/2008/fs080528.cfm

The above link contains the full text of the speech at the Commonwealth Club I attended last week. It doesn't include the Q&A session, but is still worth a look-see.

Federal Reserve President Richard Fisher at the Commonwealth Club

Richard Fisher, the CEO and President of the Federal Reserve Bank of Dallas, spoke at San Francisco's Commonwealth Club (595 Market St.) on May 29, 2008. Some highlights:

1. Mr. Fisher is a big fan of Bill [McChesney] Martin, known for his statement that the job of a central banker is to "take away the punch bowl just as the party gets going."

2. Mr. Fisher said that the Dallas Federal Reserve's inflation numbers incorporate food and energy/gas prices. See http://dallasfed.org/research/ for more information. I believe that what Mr. Fisher was referring to is the the "trimmed mean PCE" numbers, but I could be incorrect. What seems clear, however, is that the PCE numbers are probably more accurate than the CPI numbers, which are usually "excluding food and energy." As you can see in the next link, the PCE numbers are usually at least one percentage point higher than the CPI numbers. See http://www.dallasfed.org/data/pce/index.html

Mr. Fisher indicated that only his bank and the Cleveland Federal Reserve Bank published these more comprehensive numbers.

3. Mr. Fisher's speech sounded like a more number-heavy speech that the former Comptroller David Walker would give. He warned us to do something about government spending, saying that we are "falling victim to complacency and recklessness." He mentioned the "frightful storm of untethered government debt." [He probably meant to say, "unfettered," not "untethered."]

8 years ago, we had a surplus of 236 billion dollars, with a Republican Congress and Democratic president (Mr. Fisher emphasized that these issues were non-partisan.)

Today, the expected deficit in 2008 is at least 410 billion dollars.

Our underfunded liabilities, using an infinite horizon discounted value, is 13.6 trillion dollars for social services.

[Now, I don't pretend to know what an infinite horizon discounted value is. For more information on infinite horizon projections, see

http://www.factcheck.org/article302.html

That article says that an infinite horizon model is misleading, but Mr. Fisher mentioned an infinite horizon "discounted value," which may be different.]

Mr. Fisher said that Medicare was the biggest problem. Medicare has three parts, A (hospitals), B (doctor visits), and D (drug benefits/prescriptions). He estimated a projected deficit of 85.6 trillion dollars for Medicare. Including the projected deficit of Social Security benefits, Mr. Fisher expects a 99.2 trillion dollar deficit in unfunded portions of entitlement programs. He said that this debt works out to be more than 300,000 dollars per person, assuming a population of 304 million, which includes nonworking adults and children. Income taxes have to increase 68%(?) to cover deficits, which is basically reaches confiscatory levels.

What to do about all this? Well, he didn't have much to say, other than it was our responsibility, because we elect the people who run the government.

4. Mr. Fisher dissented in the last three interest rate cuts. He is an inflation hawk and said that "inflation is the most insidious enemy of capitalism and prosperity." He also said that "running the printing press" [of money] is the worst option, because that causes inflation, and stable prices are necessary for growth.

5. Mr. Fisher mentioned a humorous story where someone asked a researcher, "Is there a difference between the Republicans or Democrats [Congresses] in terms of who spends more money?" The answer was, "There's only one difference--Democrats enjoy it more."

6. Mr. Fisher was more relaxed during the Q&A session.

When asked what his bank does, he said that among other things, the Federal Reserve lends money at the discount window; clears checks (which is a declining function--he said his children had never used a paper check--people are moving to online banking); assists the U.S. Treasury; and processes cash (his bank recently processed 12 billion dollars--cash is used more in TX).

Mr. Fisher ran for a U.S. Senate seat and lost. In his funniest remark, he said he calls the legislative branch "the lower intestine." This was after he said the best part of his job was that he was allowed to speak the truth, and most government officials could not do that because they had to get elected, or balance competing interests. The difference between his position and the other branches was that he "could tell the truth."

He said that the FOMC meetings were a civil deliberation and a process that emphasized civility.

Comparing Greenspan and Bernanke, he said both of them had a great sense of humor. Bernanke was "perditiously smart," understanding the Depression more than any other living human being. He said Bernanke's best experience was serving on the local school board in Pennsylvania. On Greenspan: he "listened very well," perhaps because he played the saxophone.

Mr. Fisher said we are in for a period of "anemic economic activity," but said he would not call it a recession. He said the "debauching of our credit system" hurts small businesses, which create jobs in America.

He also said that we are experiencing inflation and our current economic climate because "we won." In his most passionate remarks, Mr. Fisher commented that "Chairman Mao is dead--I won't say God bless his soul. Hồ Chí Minh is dead. In November 1989, the Soviet Union filed for bankruptcy. We won." Everyone wants to imitate our lifestyle, which raises prices and leads to a period of more competition as other countries adopt our successful capitalist model.

A question was asked about implementation of the Basel II Accord, but Mr. Fisher said the writer of that question should come up to him afterwards and speak to him about it directly, because it was a technical question.

Mr. Fisher said he was instrumental in getting NAFTA passed and was "proud of NAFTA." He referred to Joseph Schumpeter and "creative destruction," saying that it drove each of us to our "competitive advantage." but said that the media was skewed in its reporting. If a company shut down, the media was there, but it wasn't there to record an instance when a completely new job opened for that person who was laid off or in general. He said that only 1% of our economy was based on agriculture; 5% on mining; 11% on manufacturing; and the rest (84%) was services. To give us an idea of how the economy has changed, Mr. Fisher said that lawyers "produced" more GDP than auto manufacturers [a sure sign of over-legislation].

A question was asked about whether he believed that the numbers from the BLS were accurate. He said that he was more concerned about sufficiency of the data than its accuracy. There are apparently large swathes of the economy that aren't reflected in the numbers he receives.

Overall, it was a fun experience. I asked him a question privately, about which currency he believed would be the most stable over the next five years. Mr. Fisher said that he couldn't predict that far out, and a basket of currencies would be the most stable way of managing risk. He did say that the European Central Bank had only one mandate, which was to control inflation, while the Fed had a dual mandate [maximum sustainable employment and price stability]. His comments seemed to imply that the Euro might be the most stable currency, but for the long term, he said he favored the U.S. dollar. His refusal to give me a clear answer was astute. To give you an idea of just how quickly things can change, remember than as recently as November 2003, Mr. Bernanke is on record as saying that "the current risk of increased inflation is, for the time being at least, quite small." See

http://www.federalreserve.gov/BoardDocs/Speeches/2003/
200311062/default.htm

The job of American central bankers--especially given their recent inability to predict bubbles and busts--is to respect savers while minimizing unemployment. Hopefully, Mr. Bernanke will get back to the "respecting savers" part of the mandate by raising interest rates at the next FOMC meeting.

FYI: The San Francisco Federal Reserve is right up the street from the Commonwealth. Call ahead of time, but for now, they have tours open to the public on Fridays at noon. Otherwise, they are closed to the public.