Cost Of Living Versus Inflation

One thing I have discovered when discussing inflation is that discussions very rapidly get derailed into discussions of the “cost of living.” I take a view that is conventional within the market and economic discussion: inflation is a macroeconomic concept, and the consumer price index is one way to measure it. However, many people view inflation as a rising cost of living.

There is a link between these two ideas, but they are not the same thing. It is entirely possible that the reader might disagree with my views on the distinction, but if they are to get any value from this book at all, they need to understand what I am referring to.

For readers who are familiar with the economic theory on this topic, there is a technical concept of a “cost of living” index. I defer that discussion to a technical note since it rarely comes up in discussion outside of technical statistical discussions.

Inflation as “Rising Prices”

The first variant of the cost of living perspective is to just note some prices that have risen. For example, whenever I write about inflation being low, I get comments about rising prices for listed items (food, insurance, etc.). In many cases, they ask me whether I have seen the prices of these items, ignoring the fact that I probably live in a different country from them. A variant of this is the following logic: “the price of (something) rose by 10%, how can inflation be 2%!”

The answer to this is straightforward: developed countries by and large do not control prices. (There are exceptions. For example, Quebec controls the retail price of milk.) Different prices go up and down by different percentage amounts.

Back when I was a young in the 1970s, peacetime inflation was still seen as an unusual thing. Old people were notorious for constantly making complaints of the form “Back in my day, chocolate bars were a nickel (or whatever)!” If you want to sound like an old crank and complain about individual price changes, feel free to do so. (I will probably pay as much attention to those anecdotes as I did when I was a kid.)

When we discuss inflation, we are discussing an overall price change. Individual prices can change for any number of reasons, and there may be no overall pattern. To get away from discussing anecdotes, we need to systematically measure prices – which national statistical agencies do. I discuss the limitations of inflation measures in this book, but no matter what their flaws are, they are better than picking price changes on a whim.

Falling Standard of Living

Another way of getting side-tracked is to discuss what might be termed the standard of living – how have the fortunes of an average person changed over time? A typical phrasing is something along the lines of noting that a single worker household could afford a certain lifestyle at some point in the past.

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Disclaimer: This article contains general discussions of economic and financial market trends for a general audience. These are not investment recommendations tailored to the particular needs of an ...

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