Mostly summarized from Gregory Mankiw’s Principles of Economics, 5th Ed.
PART 8 The Data of Macroeconomics
Chapter 24 of 36 Measuring The Cost of Living
Section 8 of 18
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-1- Substitution bias
-2- Introduction of new goods bias
-3 - Unmeasured quality change bias
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-3 - Unmeasured quality change bias
If the quality of a good increases from one year to the next and its price remains the same, the value of a consumer’s dollar increases because you are getting a better good for the same money.
The Bureau of Labor Statistics (BLS) attempts to account for quality change when the quality of a good in the basket changes.
In effect, the BLS tries to compute the price of a constant-quality basket of goods.
Quality changes are problematic because dollar value of the changes is hard to measure.
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Among economists there is much on-going debate over how severe these three measurement problems are and how calculation can be improved.
Several studies in the 1990s concluded the CPI overstated inflation by about one percent per year.
In response to the studies the BLS has adopted several improvements of CPI calculation.
Many economists believe the overall bias error has been reduced by about a half.
The bias adjustment issue is important because much in the economy is influenced by the CPI.
Many government programs use the CPI to adjust payments including Social Security.
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