Sunday, May 15, 2005

"The Doctrine Of Pleasure" And Arbitrary Power

The Fed uses rents rather than home prices when calculating inflation. Without going into the merits of that, this WS Journal article examines the use of hedonics in the pricing formulas. "The principles of hedonics, an arcane statistical technique that’s become a flashpoint in a debate over how the U.S. government measures inflation. Hedonics is essentially a way of accounting for the changing quality of products when calculating price movements."

"If someone is paying the equivalent of $500 a month in rent for several years, the rent has actually gone up as the unit ages and becomes less desirable, according to the government." Good point; so why should existing home prices go up?

"Bill Gross, head of the world’s largest bond fund, Pimco, caused a stir last fall by claiming the way the CPI is calculated amounts to a 'con job' by the government aimed at concealing the true rate of inflation. A key culprit, he said, was the CPI’s growing reliance on hedonics."

"The CPI 'takes something you can’t really measure and applies a metric to it in ways that are arbitrary,' he says. 'There ought to be some kind of warning label on inflation numbers that are derived from hedonic pricing.'"

"Economist David Johnson, who heads the CPI program at the bureau, says, 'There’s no doubt the analyst has to make decisions about what’s comparable and what’s not, and where adjustments should be made.'"

7 Comments:

At 11:47 AM, Anonymous Anonymous said...

so whatever analyst makes those "determinations" of hedonic figures is literally the most powerful person in the world.

because their "guess" at hedonic figures is literally all that sets the official rate of inflation for the most wealthy nation on earth.

and that rate of inflation affects trillions of dollars worth of TIPS and bonds tied to official rates, as well as all cost-of-living adjusted social programs.

the CPI is an utter fraud. everyone knows it- the only reason it still exists is because the very concept of inflation is so complicated that the vast majority of americans are incapable of understanding how they are being ripped off.

even if you held a news conference and explained what was going on, most people would just switch the channel to "Oprah" or yet another home improvement tv show.

our country is so fucking doomed.

 
At 11:57 AM, Anonymous Anonymous said...

To take it a step further -- because infaltion is understated, interest rates are improperly low -- China and Japan are being defrauded yet keep piling in to U.s. Treasuries like there is no tomorrow.

TheGuru

 
At 12:48 PM, Anonymous Anonymous said...

Both the unemployment numbers and inflation numbers have been completed politized under Bush. We have been suffering serious Stagflation for 4 years now.

I believe that Hedonic works until it stops working and that takes some willful
sleight of hand. I have seen lots of charts showing that Rents and Home RE tracked pretty well until 1997-1998. Then in 2001-2002 they sharply split. Greenspan has willfully covered this up inorder to use a cheap money asset inflation economy to prop up/justify Dubya's disasterous non-jobs producing tax-cuts.

We could have prevented RE bubbles through
aggressive Government intervention, sound housing policies and by fighting suburban sprawl. We could have prevented the Nasdaq
bubble with sound policies as well. We failed to do so on both.

 
At 3:32 PM, Anonymous Anonymous said...

I think there is another reason that the CPI is so skewed, and it has nothing to do with real estate values. It is because so many pensions and cost-of-living pay adjustments are tied to it. When you think about how many heavy hitters count on the CPI to hold down the increase in their costs, including the USG itself, then it is pretty simple to conclude that the elephant wants to see the smallest number possible. Chip

 
At 2:08 AM, Anonymous Anonymous said...

So the Fed statistics ignore real estate price increases as part of the inflation puzzle.

Where I live in N. California there seems to be a trend in condo conversions because of the huge gulf between what you can get for renting a unit and what you can make by selling it.

My hearsay evidence for this is a 2 bedroom luxury (= they installed granite counter tops) condo converted apartment for sale in Sunnyvale for 400K+ versus a rent of 1600/mo. The demand for the conversions was apparent and the conversions are taking place piece meal with regular tenants living in the remaining units.

Perhaps more knowledgeable people can corroborate this trend.

Take housing, which makes up about 30 percent of the CPI. Critics often blast the CPI for using a measure based on what it costs to rent homes rather than what it costs to buy them – thereby avoiding the recent run-up in housing prices. The bureau says it is more concerned with monthly costs of housing than the long-term value of houses, so it thinks rents are a better gauge.

By ignoring the cost of real estate the Federal Reserve are forcing the condo conversions and effectively stoking up inflation in rental rates. I know the CPI is after-the-fact - it measures increases that have already occurred but the Fed has a responsibility for limiting any prospective inflation.

If the Fed took into consideration housing costs they would be forced to throttle back the increase in housing prices to check inflation and that would limit the profits of condo conversions. Instead they are fostering (prospective) inflation in rental prices. They created the price gap between housing and rentals with the result they are driving down the supply of rentals through their own induced inflation of housing.

They might not be able to keep this out of the CPI indefinitely.

The manipulation by the Fed of the CPI statistics is very dishonest and so transparent.

I have a near and dear relative who's gotten the RE bug and is now in very early planning stages of a condo conversion if she can work out the deal. Needless to say telling someone they are caught in a mania is liable to get you your head handed to you.

 
At 5:30 AM, Anonymous Anonymous said...

john r wrote:

They might not be able to keep this out of the CPI indefinitely.

Wouldn't it be 'interesting' if the cost of residential housing were suddenly included in CPI calculations...as home prices begin/continue their slide.

 
At 5:36 PM, Anonymous Anonymous said...

My brother lives on Boston's north shore & he's midway through doing a condo conversion on a rental building he owns in Salem, MA. The financial benefits are just too good to not do it. You get to make a lot of money, and as an added bonus, you don't have to deal with Pain in the ass tenants anymore! The building is a single family victorian that was converted into 3 apartments years ago. To me, it screams "rental." Who wants to own a condo in an old, creaky building? He thinks we're in a bubble situation too, and is hoping to sell before it all comes to an end. I'm sure this is happening in a lot of 'hot' markets.

 

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