CPI Report’s Importance Can’t Be Overstated

In Washington, dry economic tracts seldom do more than gather dust. Theoretical economics is usually lost on politicians and policymakers since so little of it seems relevant to the tough real-life decisions they have to make.

But there will be no quiet spot on a back shelf for the Boskin Report, nor should there be. The newly released report on the consumer price index by a blue-ribbon panel of five economists--headed up by Michael Boskin, chief economic advisor in the Bush White House and now a Stanford professor--has shaken official Washington to its foundations.

That’s because the report has come up with a simple but stunning fact, one that could change almost everything about the way the government runs. Boskin concluded that the CPI overstates inflation by as much as 1.1% a year and that it has been doing so for at least the last 25 years.

That’s a stunner in Washington because the CPI is not just another number; it is the bedrock formula on which virtually all federal spending is calculated. If it is not only inaccurate but has been horribly skewed on the high side for a generation, then the entire federal budget--not to mention the recorded history of the American economy since 1973--is distorted as well.

Official Washington instantly recognized the significance of Boskin’s findings, and it took special-interest lobbyists all over town about five nanoseconds to figure out whether their ox would be gored by the report. Many concluded that a lower inflation rate would actually be bad. And so they have responded like a conclave of medieval scientists who have just been told that the Earth is round instead of flat. Paradigms are being shattered all over town.

Boskin’s findings could put virtually every federal program on the chopping block, and Washington lobbyists of all stripes are outraged.

Already the report is being attacked by critics who see it as a thinly veiled attempt to cut inflation-adjusted entitlements such as Medicare, Medicaid, veterans benefits and federal pensions. If the CPI is reduced to reflect Boskin’s findings, then senior citizens and other entitlement recipients will see a sharp reduction in the future growth in their benefits. A lower CPI would also lead to higher income taxes for the middle class, since tax brackets are now periodically adjusted upward for inflation.

Just changing the inflation numbers in the federal budget would lead to enormous savings: Lowering the CPI by 1.1% a year to reflect Boskin’s calculations would save the federal government about $1 trillion over the next dozen years. Using the Boskin numbers would mean that the crisis in Medicare and Medicaid could be delayed, easing the pressure on the Clinton White House and the Gingrich Congress to tackle entitlements.

But Boskin’s findings should be argued on their merits, not on how they will affect policy. Conservative politicians who want to cut the budget shouldn’t use statistics to avoid making hard policy decisions themselves. At the same time, liberals who want to protect federal funding programs shouldn’t try to defend bad statistics simply because they happen to be wrong in their favor. The debate over policy issues should be undergirded by honest numbers.

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On theoretical grounds, Boskin seems to have a strong case. His basic premise is that over time, the American standard of living has improved, often in intangible ways, through technological advances and qualitative changes in goods and services--which haven’t been detected by the raw numbers collected and crunched into the CPI.

Simply measuring prices in a typical market basket of goods and services, as is done by the Bureau of Labor Statistics for the CPI, misses just how dramatically those goods and services change over time.

In 1973, American consumers couldn’t spend their money on personal computers, VCRs, cellular telephones, fax machines or satellite television. Cars built in Detroit in 1973 were much worse than the 1997 models rolling off assembly lines today, and the average American lacked the broad access to the nation’s financial markets that is now so readily available through the mutual fund industry. The Internet, e-mail and fiber optics have all combined to accelerate global communications in unimagined ways.

So shouldn’t the CPI--as well as other economic data--reflect such dramatic changes in technology and quality?

One argument in favor of adjusting the numbers comes from the former Soviet Union. Western economists badly overestimated the strength of the Soviet economy for decades because they only measured the raw volume of Russian output without considering whether the cars or refrigerators being produced by Russian factories were any good. In effect, Western economists missed a huge hidden inflation in the Soviet economy--the enormous price that that country’s consumers had to pay by being stuck in a backward, crumbling economy.

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I f all America’s economic numbers have to be rewritten, doesn’t that mean we have to rethink the history of the last 25 years?

In overstating inflation, the CPI has, after all, tended to understate the economy’s growth rate, and thus its underlying level of productivity. The central tenet of American economic thought is that productivity began to decline in the United States around 1973. According to the conventional wisdom, America has never returned to the glory days of the 1950s and ‘60s. Is that now just plain wrong? The debate is still raging, but economists are being forced to dig out their calculators to check whether their long-cherished beliefs still hold.

Ultimately, the debate will boil down to an argument over technology--and the computer. After Boskin’s report was issued, Princeton economist Alan Blinder, a former vice chairman of the Federal Reserve Board, told Washington Post that the current CPI only makes sense if one accepts the idea that technological progress halted in 1977.

Coincidentally, that was just before the advent of the personal computer, which has arguably more than any other single mechanical instrument transformed life in the last generation.

In other words, to argue that Boskin is wrong, you have to believe that the computer hasn’t had much of an effect on the American economy.

There are plenty of critics who argue just that; they say it is too early to tell whether the computer has really enriched America.

I suggest they go to Seattle. And ask a guy named Bill Gates.