We often see statements like this made by economists:
When we adjust for inflation, our unit of measure tends to be something like "1982 dollars". But the entire concept of 1982 dollars is a rather meaningless one. A basket of goods in services in 2008 (or 2009) is fundamentally different than those in 1982. Without access to a time-machine, I cannot go back in time to 1982 so I can buy a brand new Colecovision at Woolco. I can't even do that in 2008. 1982 dollars is not a unit of measure that is relevant to my life today.
Inflation and Attempts to Account for Product Changes
Naturally the Bureau of Labor Statistics attempts to account for the fact that a representative basket of goods in 1982 is vastly different than one from 2008 by making "hedonic adjustments. The Bureau of Labor Statistics has a report on the methods they use, which is available as a PDF file.
There is a great deal of debate on whether the BLS's measure understates or overstates the "true" value of inflation. The website Shadow Government Statistics argues that the BLS systemically underestimates inflation. But all such arguments assume that there is a 'true' objective level of inflation and the job of economists is to figure out the best way to estimate it. However, there cannot be an objective inflation because the comparison between two baskets of goods available at two different points in time is subjective in nature.
Inflation and Comparing Products
In order to measure inflation we must make judgement calls between the quality of goods available in two different time periods. Consider a brand new Colecovision game system (available for purchase in 1982) and a brand new Playstation 3 (PS3) video game system (available for purchase in 2009). How can we compare these two items? Is the PS3 equally as good as the Colecovision? Twice as good? Two hundred times as good? How do we know? How can we compare the two?
If both goods were available for sale at the same time, you could make the argument that two goods are comparable. If the local store sells bananas for 25 cents and oranges for 50 cents, we could say that oranges are twice as good as bananas. But we cannot make this argument for the PS3 vs. Colecovision debate, since new PS3 systems were not available in 1982 and in 2009 we can obtain PS3 systems but new Colecovision systems are not available for retail sale (outside of collectables stores).
The BLS does the best it can under such circumstances, but we have given them an impossible task. There is simply no objective way to measure qualitative differences in products available for sale at different times.
The Verdict on Inflation
Economists and the media use inflation estimates to adjust the prices of goods sold in two periods of time. During times when the make-up of a typical basket of goods is not changing a great deal, there is some merit to this approach. In times of rapid technological change, however, it is simply impossible to objectively compare baskets of goods that are decades apart.
"Gas prices reached a new 2008 low of $1.61 per gallon, which is the lowest inflation-adjusted price since..."(Emphasis mine)But what do economists mean by inflation-adjusted? A typical definition of inflation is:
Inflation is an increase in the price of a basket of goods and services that is representative of the economy as a whole.Measuring Inflation
When we adjust for inflation, our unit of measure tends to be something like "1982 dollars". But the entire concept of 1982 dollars is a rather meaningless one. A basket of goods in services in 2008 (or 2009) is fundamentally different than those in 1982. Without access to a time-machine, I cannot go back in time to 1982 so I can buy a brand new Colecovision at Woolco. I can't even do that in 2008. 1982 dollars is not a unit of measure that is relevant to my life today.
Inflation and Attempts to Account for Product Changes
Naturally the Bureau of Labor Statistics attempts to account for the fact that a representative basket of goods in 1982 is vastly different than one from 2008 by making "hedonic adjustments. The Bureau of Labor Statistics has a report on the methods they use, which is available as a PDF file.
There is a great deal of debate on whether the BLS's measure understates or overstates the "true" value of inflation. The website Shadow Government Statistics argues that the BLS systemically underestimates inflation. But all such arguments assume that there is a 'true' objective level of inflation and the job of economists is to figure out the best way to estimate it. However, there cannot be an objective inflation because the comparison between two baskets of goods available at two different points in time is subjective in nature.
Inflation and Comparing Products
In order to measure inflation we must make judgement calls between the quality of goods available in two different time periods. Consider a brand new Colecovision game system (available for purchase in 1982) and a brand new Playstation 3 (PS3) video game system (available for purchase in 2009). How can we compare these two items? Is the PS3 equally as good as the Colecovision? Twice as good? Two hundred times as good? How do we know? How can we compare the two?
If both goods were available for sale at the same time, you could make the argument that two goods are comparable. If the local store sells bananas for 25 cents and oranges for 50 cents, we could say that oranges are twice as good as bananas. But we cannot make this argument for the PS3 vs. Colecovision debate, since new PS3 systems were not available in 1982 and in 2009 we can obtain PS3 systems but new Colecovision systems are not available for retail sale (outside of collectables stores).
The BLS does the best it can under such circumstances, but we have given them an impossible task. There is simply no objective way to measure qualitative differences in products available for sale at different times.
The Verdict on Inflation
Economists and the media use inflation estimates to adjust the prices of goods sold in two periods of time. During times when the make-up of a typical basket of goods is not changing a great deal, there is some merit to this approach. In times of rapid technological change, however, it is simply impossible to objectively compare baskets of goods that are decades apart.
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