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Source link: http://archive.mises.org/6864/prices-are-up-or-down-depending/

Prices are up! Or Down! Depending…

July 18, 2007 by

The CPI release this month features its usual aggregation and concludes that prices are rising 5% per annum. But take a look at specifics. If your main thing is driving around and burning fossil fuels, your compounded annual rate of price inflation over three months is a whopping and devastating 32%.

However, if your main thing is buying clothes and wearing them in a sporting way while staying on foot in the city, you are a winner: your 3-month annual compounded rate of price inflation is falling by 4.8%! But let’s say you are mainly just into recreation, hanging around the arcades, watching movies, luxuriating on DVDs, bowling, or whatever. In this case, you would not see much price change at all over the last year: 0.3%.

Let’s go even further. If you are a vegetarian, you are in luck: your purchasing power is rising because this stuff fell in price by 1.1.% since May. But if you live on milk and cheese, matters are different: prices rose 3.2%. Even in clothing, it’s not that simple. Toddlers are suffering, while women are not. Renters who love liquor are in the black; non-drinkers who buy homes are in the red. And so on.

Oh, of course, if your thing is buying software, your purchasing power is nothing but up. If you are selling software, too bad for you: you are in a profit-crushing deflationary environment, but note how this hasn’t seemed to harm the industry!

I draw attention to all this to underscore a point that Austrians have made since the turn of the 20th century: prices indexes are fictions, completely artificial. In their aggregates, they telling about nothing that truly exists.


David White July 18, 2007 at 9:54 am

“If you are selling software, too bad for you: you are in a profit-crushing deflationary environment, but note how this hasn’t seemed to harm the industry!”

While I completely agree with regard to the fallacy of price indexes, I beg to differ with regard to the above, as falling prices are not the same thing as deflation, i.e., a decrease in the quantity of money. Moreover, in a truly free-market, sound-money economy, all prices would tend to fall rather than rise. For as George Reisman writes in his excellent piece “The Goal of Monetary Reform”:

“Indeed, the very success of gold in safeguarding against the rising prices that so prominently feature in inflation is what has been made the basis for believing that gold implies deflation–depression. This happens for no other reason than that the typically modest increase in the quantity of money and volume of aggregate spending that takes place under a gold standard is
accompanied by actually falling prices whenever greater increases in the production and supply of ordinary, i.e., nonmonetary, commodities take place. … The essential propositions I want to establish are: (1) Falling prices caused by
increases in production and supply are not deflation. (2) Deflation is a decrease in the quantity of money and/or volume of spending in the economic system. This, not falling prices per se, is what causes the symptoms of depression. (3) A 100-percent-reserve gold standard is the best possible guarantee against deflation thus understood, because once new and additional gold money comes into existence, it does not, for all practical purposes, go out of existence. Instead, its quantity tends continually to increase, at a modest rate.”


Thus is it indeed the case that while software prices and those of other computer related goods are falling, the sellers thereof aren’t harmed by it, as the relentless productivity gains maintain profitability. Hence, both buyer and seller benefit, and endlessly so, to the great and growing benefit of society as a whole.

Leave it to the Fed, of course, to completely misunderstand this, which is why its chairman can be counted on to do his now-famous helicopter drop to fend off deflation that is in fact no such thing.

Which is to say that due to the total corruption of money, we can count on experiencing what Mises long ago predicted: “the ‘crack-up boom’, or hyperinflation and the breakdown of the exchange economy.”


Jay D July 18, 2007 at 10:59 am

David White,

Would it be deflation if the purchasing power of gold went up due to population increase?

Supply/demand. Same pool of gold, but increasing population means increasing demand on it. As population increases, more people are willing to part with more goods in order to possess the same amount of gold.

Just trying to understand.

David White July 18, 2007 at 12:47 pm

Jay D,

An increase in population doesn’t necessarily translate into an increase in demand. That’s because demand, as opposed to need, means the ability to pay. So it’s a question of how many people actually have a demand for gold, not just the need for it, and what that overall demand amounts to relative to supply.

But generally speaking, your point would tend to stand insofar as those making up the population increase weren’t subsistence farmers but workers in a gold-based market economy.

Jay D July 18, 2007 at 1:55 pm

Thanks David White, I think I understand. More products produced because there is a bigger population of workers producing them isn’t much different than more products produced due to technolgy gains.

As population increases, three people might be making widgets instead of one. The supply of widgets goes up so their price goes down. The worker gets paid less. However, There are more workers in all areas so prices go down. All else being equal (leaving out technology), I would guess that the purchacing power of a day’s wage would remain constant. There would be the psychological factor involved in that a worker would earn a smaller quantity of gold than his grandfather, even if that amount of gold could buy the same amount of stuff. People who saved their gold would make out pretty good.

This makes intuitive sense if you imagine 1,000 Austrian economists colonizing Mars, each taking 1,000 krugerrands with them. If they stuck with their gold standard, when the population hit millions, they would be transacting in very small amounts of gold indeed.

I realize that the gold supply isn’t completely set. A certain amount of inflation is involved when new gold is mined.

Person July 18, 2007 at 2:47 pm

Jeffrey_Tucker: prices indexes are fictions, completely artificial. In their aggregates, they telling about nothing that truly exists.

Actually, all we *really* know is, there’s at least one cow in Scotland, and *this side* of it is brown. ;-)

More seriously, I don’t see how you conclude that. They certainly do measure real things in the real world. They tell me how much e.g. gasoline prices have gone up.

Stefan Karlsson July 18, 2007 at 3:25 pm

“price indexes are fictional, completely artificial. In their aggregates, they tell nothing that truly exists”

Notwithstanding the objections that can legitimately be raised against the specific ways in which these indexes are actually calculated right now, this is pure nonsense.

It is certainly meaningful to know that the CPI in Japan is falling, the one in the US increasing somewhat, the one in Argentina increasing a lot faster or that the one in Zimbabwe increasing radically faster than anywhere else.

Everyone who trades in financial markets now that for several reasons, stock price indexes are very meaningful for several reasons, even though just about every day, individual stocks are rising and falling. When for some reason, bullish or bearish sentiment prevails this tends to drag along most stocks in that movement.

David July 18, 2007 at 3:53 pm

For more on how CPI is constructed and presented, see Jim Puplava’s article “The Core Rate”.


An excellent overview, check it out.

Mathieu Bédard July 18, 2007 at 4:02 pm

It’s like a step in the right direction toward a goal they can never reach..

Person July 18, 2007 at 4:11 pm

David: In the link you gave, the author claims that the real inflation rate is 5.5%, yet people are buying bonds that pay less, effectively loaning at negative interest rates. If this is so, why don’t people buy derivatives of the goods that are inflating? You should be able to construct a basket of securities you can buy that appreciates faster than risk free bonds if he’s right.

David July 18, 2007 at 6:48 pm


You’re right to bring up the point about losing out to inflation through bond purchases.

I also see your point about trying to beat the real inflation rate by speculating on the price of goods and commodities. However, this is more a question of investment and speculation strategy than anything to do with how CPI distorts the truth about inflation.

But since we’re on the subject, you might put together an investment strategy based on “piggybacking” the rise in goods/commodities prices. This is an idea that some investors have warmed up to in recent years. I won’t play investment adviser here, but try this for size.


jeffrey July 18, 2007 at 9:52 pm

What I mean, of course, is that there is nothing called the CPI in the market that exists independent of its component parts, and each level abstraction conceals ever more information in the service of the desire for a statistically useful fiction. All price changes are relative price changes, and they affect individuals in particular and changing ways, and there is nothing called the “price level” that can be measured and followed except one that is artificially cobbled together from a vast and diverse pool of data points. For more on this, see B. Anderson’s “Value of Money” which is in print in the mises store.

Jonathan Bostwick July 18, 2007 at 10:04 pm

Jay D,

Increased production does cause deflation. As prices fall gold buys more. But this has the effect of making gold mining more profitable.

Gold isn’t perfect as tender, but it works pretty darn well.

I wonder if someday we will abandon gold and replace it with a modern commodity, electricity or bandwidth perhaps?

Black Bloke July 19, 2007 at 4:24 am

Increased production does not cause deflation. Inflation and deflation are words that were used in political economy to refer to the money supply. A change in the money supply has the effects on prices that many people today refer to as inflation or deflation. An increase in the supply of goods and services are social benefits, prices being lowered as result of high supply is a social benefit, the satisfaction of demands in a free market is a social benefit.

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