Transcription
Do you trust the current inflation numbers? Right now, the Bureau of Labor Statistics puts the consumer price index at 2.7%. And over the last 2 years since June of 2023, the inflation rate has been somewhat volatile but falling overall.
Now, this consumer price index or the CPI is used to determine important financial decisions across the entire economy. It's used when determining monetary policy like quantitative easing or tightening, interest rate cuts or hikes. It's used to determine cost of living adjustments on things like social security benefits and interest payments on Treasury inflation protected securities, TIPS. And it even affects how much of a raise you get at work.
But can you trust the data? Because in order for the BLS to say that prices have risen 2.7% over the last year, they have to look at specific prices of specific items, average all of those price rises together to come up with a number of 2.7%. But what happens when that data is not available? When pricing data for a specific item the BLS is tracking is not available, they develop estimates for the rest of the prices.
This chart shows you what percentage of the items that they are tracking have prices that they are not able to gather for one reason or another. Usually this number is around 10%. In other words, of all of the prices that the BLS is trying to track in order to come up with their average inflation number, usually about 10% of those prices are not actually prices they've gathered. They are prices they have estimated with their models or more truthfully prices that they have simply guessed. But this is the scary part.
Now let's take a look at this chart and zoom out to see where we are at today. Over the last 3 months you can see this percentage has skyrocketed to over 30%. Which means that 1/3 of all of the prices that are being used to calculate the current inflation rate is simply guesswork. This chart comes from a recent report from Apollo which talks about how the quality of CPI data continuing to deteriorate.
Now, obviously, they don't have people just sitting in a room coming up with random numbers to completely guess what the prices of these things that they're supposed to be tracking are. So, how are they doing these estimates? Well, there are three main ways that they come up with the estimates.
And the first one is called class relative imputation. In other words, if they're trying to track the price of, in other words, if they're trying to track the price of Kleenex tissues and for whatever reason they're not able to collect the data on specifically Kleenex tissues, they will substitute Kleenex brand tissues with a different brand. They'll get something else in that class of items and just use the price from that different item that's in the same category.
Now, here's the problem with that specifically right now. The reason why we have seen such a big spike in guessing prices is because of funding and staffing shortages at the BLS. This is something they are currently blaming the Trump administration for and it doesn't look like something that is going to be reversed anytime soon. Which means that right now this spike in estimated prices is probably not happening using class relative imputation because it would take just as much time or labor to get the pricing data of a different item in the category as it would to get just that actual item. There's nothing going on economically right now that would prohibit them from gathering specific data and having to replace it with other pricing data. Funding and staff shortages would simply mean you don't have the ability to go get the pricing data of any item in the category. So, what we're seeing here is probably not class relative imputation. I could be wrong, but it just seems like that would be pretty ridiculous.
The second way that they estimate the price for an item if they can't get that specific price is something called class mean imputation. In other words, they just take the average of the entire category and use that for the price increase instead of the actual item. Now, there are a couple of issues with this. Number one, mean or average can be skewed a lot more than something like median by outliers. And so if you do have one product in that category that is very differently priced than the other products in that category, that will skew the average either higher or lower. Typically, this skewing is done to the upside because you have an infinite amount that something can be raised in price versus a floor only goes to zero. But it does stand to reason that this is probably also not the method being used right now, especially this giant increase in estimated prices because again this relies on actually having the data. And if you have the data for the entire category, it's very likely you also have the data for the specific item. And if the reason is true that it's funding and staffing shortages that are making it difficult to acquire pricing data, that would also be difficult to acquire pricing data for the entire category. So it seems to me that this is also probably not the method being used to calculate or estimate these prices.
Which brings us to the third way that prices are estimated when the BLS cannot gather the price data. And this is called carry forward imputation. In other words, what they do is they take the very last price that was collected for that item and just carry it forward. They just use the same price. Given the fact that the reason that estimates have gone up from labor shortages and funding shortages, it would stand to reason that this method of collecting prices or modeling or guessing or estimating prices would be the one that would be relied on most heavily. If you don't have the manpower or the money to go out and find the pricing data, you're probably just going to use the last price you were able to collect. And given the fact that the CPI measures price changes from a year before, if you are using the same prices that you collected beforehand, it would stand to reason that the current CPI is under reported at least slightly, considering one-third of all of those prices are literally being guessed. And we don't know how much of that guesswork is just using old prices.
Okay, but here's the next problem. Let's say they were able to magically just collect all of the data that they needed and they were able to see real prices of everything. The CPI is still skewed from reality. And that's because the Bureau of Labor Statistics specifically changes what it reports those prices are because of adjustments they make to it. You can read about these adjustments on their website. This is not a hidden thing. This is not a secret thing. This is not a theory.
One of the changes that they make is called hedonic price adjustment. This is a way the BLS tries to account for quality increases when prices go up. One example is if washing machines go from physical dials to digital buttons, they would consider that a quality increase. And so even if you're paying more for it, they're not going to count that as a price increase because you're getting more quality for your money. On their website, you can see every single category that they do hedonic adjustments to, like men's clothes, and wireless phone services, refrigerators and freezers, TVs, and many more. Even though these things serve the exact same functions because some features get better, they're going to take that against the price increases.
But that's not all. They also do something called the substitution method, which basically means if they are tracking the price of something in their index and they notice this one thing is getting really expensive really fast and we think because of our subjective reasoning, it doesn't accurately capture the overall market in this area. We're just going to substitute that out with something else. For example, if the price of ribeyes starts getting really expensive and they're tracking ribeyes and it gets really expensive, it gets to, you know, $20 or $30 or $40 a pound. They might look at that and say, "Hey, whoa, there's something different crazy going on here, we're going to just get rid of that out of the index and we're going to replace that with something else. Maybe New York strip, maybe chuck." And in doing so they are not capturing the true cost rising of the quality of life that people are choosing to pay for.
Now it is true that you do have to do some sort of hedonic adjustment and some sort of substitution because today most people don't buy the same things people were buying 50, 60, 70 years ago. You have to do some substitution if you're going to try and track the average level of prices. You have to do some sort of quality adjustment because the TVs we buy today are not the same TVs from 40 or 50 years ago. The cell phones we buy today with everything they can do and all the productivity we can have with them, they're not the same things that we were buying 10, 20 years ago. Even if they cost more, they're replacing a lot of other things that people used to buy. But you have to be very careful with it because the potential is there for it to cause the entire level of prices to be under reported.
Now the third problem is that many times the CPI actually just tracks the wrong thing entirely. For example, the CPI says that the cost of health insurance has declined by 19% over the last 5 years because they're not actually tracking the cost you are paying for health insurance. They're tracking something called retained earnings at health insurance companies and they're tracking the difference between what the health insurance company collects in premiums versus what they pay out for the claims. They say they do it this way in order to track the cost of the quality of the care you're getting, but the quality of the care you're getting is not determined by the price. Just because the insurance company is paying out more for those claims and for that coverage doesn't mean you are actually getting better health insurance, especially considering the fact that health insurance cost has done nothing but go up for over two decades when you're tracking the amount that people are actually paying.
Another thing they track incorrectly is the cost of housing. Instead of just actually collecting the data on how much people are paying for mortgages and how much people are paying for rent, they capture it through something called owner's equivalent rent. In other words, they contact homeowners, which I don't know who they're contacting. I've never been contacted or surveyed for any prices whatsoever, but they'll call up homeowners and they'll say, "Hey, if you were going to list your house on the market today and rent it out, what would you rent it out for?" And whatever that homeowner says they would rent it out for, that's what they record. This is preposterous because 99% of homeowners have no idea what it would cost or how much they should charge to rent their home out. Given the fact that most people today who have mortgages have very low mortgages, 3 or 4% and most homeowners are thinking, I would just want to rent it out for, you know, enough so I could cash flow a little bit after my mortgage. It's nowhere near what current rents are at today, which means that this is another category that is likely under reported.
Okay, let's take it one step further. Let's say they did actually have the ability to get all the data they needed. Let's say number two, they did actually use hedonic adjustment and substitution correctly. They didn't abuse it and they did track all the correct prices for each category. It's still not actually possible to measure inflation. The reason why is because price changes actually influence human behavior. If you buy ribeyes every single Friday night for dinner, but the price of ribeyes for some reason doubles or triples, you may very well decide, ah, I'm going to get New York strip tonight or filet mignon instead of ribeyes. And that behavior change itself changes what those prices would have done if that behavior would have continued. Which means that because prices change from human behavior and then human behavior changes from prices, it's not actually possible to come up with a true gauge of the average price level that captures quality of life getting more expensive or less expensive.
Now, even though it is impossible to accurately really measure inflation, it is possible to get a close rough estimate of what it really is by looking at multiple sources. Because despite what the government would have you believe, the CPI from the BLS is not the only model. In fact, an independent measure of the inflation rate is done by a company called Trueflation, and they're putting the rate of inflation at only 2.01% over the last year. Another one that many of you are probably familiar with is called Shadow Stats, and it shows you what the inflation rate would be if it was measured the exact same way that it was measured in 1990. As of the time of this recording, it would be closer to 8%. And it also shows you what it would be if it was measured the exact same way as it was in 1980, which would put it somewhere around 11 or 12%.
Now, you might look at Trueflation and think, well, that's way too low. You might look at Shadow Stats and rightfully think, well, that's way too high because they're measuring things that just quite honestly don't matter anymore. Changes do need to be made. There's another source called the Chapwood Index that tries to break it down by city as well. And if you look at all of these together and then also look at the prices of the things that you're actually buying, you'll get a much better idea of how inflation is affecting you personally.
Here's the reality. We are in a new phase of the long-term debt cycle. The next few decades are going to look different than the last few decades. We are no longer in a bond bull market with falling interest rates and disinflation. That phase of the debt cycle started in 1980 and it ended in 2020. We are now in a new phase that will look much more similar to the '40s through the '80s with rising inflation, rising rates, the government reducing its debt to GDP by unloading that debt onto the economy through inflation. And if you are not prepared for what all of that money printing and inflation will do to the economy and to markets, you will get left in the dust. There are new rules to this game. It's not going to be the same way it was for the last 40 years. And if you don't know how to invest in a rising interest rate, rising inflation environment, you don't know how to pick assets and distribute your portfolio across asset classes correctly, I made the perfect step-by-step blueprint for you. It's called the Hedged Hypergrowth Portfolio Blueprint. It'll give you everything you need to know to thrive during this next phase of the debt cycle. Get it. It's in the link in the description below. As always, thanks so much for watching. Have a great day.