This week, the Bureau of Labor Statistics (BLS) announced the Consumer Price Index (CPI) for June 2024 fell 0.1%. This negative number was better than the analysts we were expecting, and pretty much guaranteed the Federal Reserve would cut the overnight rate by the end of the 3rd quarter.
As a consumer, you might wonder where the BLS is buying its groceries. Prices sure don’t seem to be headed south at the Publix or Winn-Dixie near my house. However, the CPI incorporates a lot of goods & services, and focuses more on relatives than absolutes.
Further, it does a poor job of tracking changes in debt service obligations due to higher financing costs. For instance, the car might only cost 2% more this year compared to last, but your interest rate is 5% higher. That higher borrowing cost represents real dollars to you, but doesn’t easily make its way into the official inflation data. As far as cars go, they are up only 2%.
Nor do smaller serving sizes, also known as “shrinkflation.” Let’s assume a box of macaroni & cheese is $2 for a 9 oz. box. If the company reduces the amount in the container to 7 oz., but still charges $2, guess what? That technically isn’t inflation. You are just getting about 22% less per standard serving size.
How about that?
Then, there is the fact the CPI ultimately is a substitution basket. As consumers spend more or less on a particular item, its weight in the equation changes.
Now let’s assume you will only eat filet mignon. Unfortunately, it goes up in price so much that you switch to NY Strip steaks. As a result, the weight to the filet in the equation goes down and the one for NY Strip goes up. Imagine this keeps on happening until you are eating potted meat on saltine crackers. Or maybe Vienna sausages off a toothpick.
While there are a few worse things than these, like canned asparagus and chitterlings, there is no argument there is a vast disparity between filet mignon and potted meat. However, due to how the calculation works, inflation might only be, say 3%, even as your standard of living has plummeted.
Admittedly, that is a pretty extreme example, which assumes the more expensive products don’t respond to decreases in consumer demand. They do. However, it is important to note, the CPI tracks what the BLS believes the consumer is actually buying. If they aren’t, regardless of reason, the BLS doesn’t include it in its methodology.
With that being said, how many times have you put something back at the grocery store when you saw the sticker? Recently, have you picked up a package and thought: “since when did chicken thighs cost almost as much as breasts?” That is the substitution basket at work! Pretty soon chicken necks, gizzards and livers will be jumping in price.
Well, maybe not. They have, come to think of it. While they aren’t approaching the same price as thighs or breasts, they are significantly more expensive than they were 3-years ago. I know, because I will occasionally buy livers for my dogs. Put them on a skewer on the grill, with a touch of salt and pepper, and they don’t smell half bad. However, trust me, odors can be deceiving, which is a really awkward thing to type.
As for necks and gizzards, unless I am going crabbing, I don’t buy the things. In case you were wondering, and I am sure you weren’t, I don’t go crabbing very often.
I could continue, ad nauseam, about how the government’s inflation gauges aren’t reflecting the U.S. consumer’s reality, but it is kind of pointless. The official data is what the official data is. There is no such thing as “yes, but.” The BLS will never release a report which states: “our methodology is fundamentally flawed and doesn’t accurately or adequately reflect the consumer’s actual experience.”
If that last sentence is true, why even bother with doing any calculations at all? I mean, what’s the point if they aren’t accurate?
Here is the skinny. None of the government’s data is 100% accurate. Do you think it actually headcounts every single job in the economy every single month? That is, calls every known household and every HR department at every employer in the country? That it accurately tracks the price of every item at every store in every state? That it knows the precise weighting of each item in the CPI equation?
All economic data the government releases are good faith estimates using logistics only an organization the size of the US government can provide. They are meant to be directional and ‘close enough.’ No one in the industry thinks they are inerrant, because they aren’t.
However, they are usually directionally mostly accurate. Further, they are the best we have. Think about it. Are you personally able to adequately track prices in the United States? Do you have the capacity to do the necessary legwork? The bank account to employ the needed data gatherers?
Of course not.
This, then, makes one wonder if inflation actually fell last month or not. The only true answer is: “if you spent your money last month on every item in the exact same weighting as the CPI report, then, yes, inflation went down last month.” Will the three of you raise your hands so we can identify you for the beating?
Other than that, I have no way of knowing. How many trips did you go to the grocery story? Fill up at the gas station? Go to the doctor? Did you buy any salad dressing in June? Take your pet to the vet? Buy an airline ticket? Since no one spends their money in exactly same way, the CPI is imperfect, at best.
Still, it is directionally accurate.
So, are consumer prices ‘moderating’ or plateauing at a high point? Yes, I believe they might be or probably are. Since the Federal Reserve is arguably more concerned with relativity, as opposed to absolutes, as it pertains to consumer prices, the recent slowdown in price increases will likely help it cut the overnight rate in September.
In the end, it is kind of funny. The BLS announced the CPI fell 0.1% in June 2024. This could be one of the pushes the Fed needs to make money less expensive in the U.S. economy. The markets should respond favorably to it, and economic activity should get a boost. All told, literally trillions of dollars of wealth and output hang in the balance. It is mind-boggling.
It is also all based on information which is imperfect, based on arbitrary sample sizes, uses best guesses and is, by any serious person’s assessment, imperfect…at best.
You know, I am not sure if that is frightening or awesome.
Have a great weekend.
Thank you for your continued support. As always, I hope this newsletter finds you and your family well. May your blessings outweigh your sorrows on this and every day. Also, please be sure to tune into our podcast, Trading Perspectives, which is available on every platform.
John Norris
Chief Economist
Please note, nothing in this newsletter should be considered or otherwise construed as an offer to buy or sell investment services or securities of any type. Any individual action you might take from reading this newsletter is at your own risk. My opinion, as well as those of our Investment Committee, is subject to change without notice. Finally, the opinions expressed herein are not necessarily those of the rest of the associates and/or shareholders of Oakworth Capital Bank or the official position of the company itself.