• Demystifying inflation figures

    Ben D. Kritz

    Ben D. Kritz

    Every time the government releases inflation figures (roughly once a month), I am called upon to live up to my minor reputation as a “user-friendly economist” by the number of friends and casual correspondents who want to know why, if inflation is “only” three-point-something percent, does everything seems to be so expensive, and becoming more so in a big hurry?

    Since we’re dealing with a government that has created the perception of a big credibility gap when it comes to statistical indicators, the skepticism is not entirely without justification. There are aspects of the methodology used by the National Statistics Office (the NSO is primarily responsible for computing the consumer price index [CPI], and is supported by the Bureau of Agricultural Statistics) that are probably open to debate, mainly in the weights assigned to different factors of the CPI, but determining a “more correct” model and what its likely result would be is a bit subjective. Fundamentally, the calculation of the Philippines’ inflation rate is done according to accepted conventional standards, and it is fundamentally accurate, from a certain point of view.

    That point of view, however, might differ significantly from that of the average Filipino household. Those who sense that the published inflation figures do not accurately reflect their own spending circumstances are probably correct. Understanding why that is—and why there’s no practical way to avoid it—helps to put the significance of inflation figures into a more useful context.

    Price inflation is tracked by monitoring the prices of a large collection of goods and services, which were drawn from the 2007-2008 Commodity and Outlet Survey (COS). The results of the survey, which gathered data on the things families purchase most often, were sorted to create an overall “basket” of CPI indicators, which are arranged into categories according to United Nations Classification of the Individual Consumption According to Purpose (Coicop), an internationally accepted standard that makes different countries’ CPI reports comparable. Each of the categories is given a certain “weight,” based on the average proportion of family spending it represents; that particular factor is based on the 2006 Family Income and Expenditure Survey (FIES), so the prices of goods and services in 2006 are used as a baseline. In other words, the CPI for the year 2006 equals 100 (the total of all the weights); the degree to which prices differ now from that baseline represents the rate of inflation.

    The specific components of the CPI basket are thus one possible source of inaccuracy, but since the results of the FIES have not changed significantly over at least the last three surveys (which is probably something the government would like us to forget, since they show that poverty reduction efforts are going absolutely nowhere), any discrepancy arising from which goods are being tracked is probably small. The weights given to the different categories, however, may create a larger margin of error. For the entire country, the weights—which again, supposedly represent the proportions of a “typical” family’s spending—are 38.98 percent for food and nonalcoholic beverages; 22.46 percent for housing, water, electricity, and fuel; 12.03 percent for restaurant and “miscellaneous goods and services”; 7.81 percent for transport; 3.37 percent for education; and between 2 percent and 3 percent each for alcoholic beverages and tobacco, clothing, furnishings and home maintenance, health, communications, and recreation and culture.

    Family expenditures could differ quite significantly from those proportions. Using my own household as an example, our spending in the “food and nonalcoholic beverage” category is roughly a third of CPI weight, but on the other hand our spending in the “housing, water, electricity and fuel” category is a little more than 9 percent higher than the average; we spend a great deal more than the average on communications, education, and “miscellaneous” expenses, and much less for transport, health care, alcohol and tobacco, and recreation. Most families would probably see similar differences; moreover, month-to-month spending in any household is not completely consistent—one category or another might see a sharp increase or decrease depending on the circumstances.

    If the weights are not actually representative of a household’s spending, they will see a difference between their “personal inflation rate” and the published CPI. For example, the recent increase in my family’s Manila Electric Co. (Meralco) bill contributed about 2.7 percent to my “personal inflation rate” (which, if you’re curious, was almost exactly double the official rate, 7.9 percent overall versus 4.1 percent) for December, according to the proportions, which my household’s expenses actually follow. Because that particular spending category is given a much lower weight in the official CPI calculation, on a national scale the Meralco rate increase pushed overall inflation by less than half a percent.

    For the average citizen, the published rate of inflation is not of much use. Over a period of time, the trend of inflation rates may provide a vague forecast of where prices are going, but in order to make personal use of that knowledge (such as to manage a household budget), the consumer must understand the relationship of his “personal inflation rate” to the published rate. Most people understandably do not have the time or patience for that, and as a practical matter, would probably improve their stress levels if they just ignored the inflation rate.

    Even as an indicator of the overall economic health of the nation, the CPI by itself is not very revealing; a trend over a period of time in which inflation exhibits very little change is generally considered positive while a series of significant fluctuations or a trend that is definitely moving up or down is generally considered bad. In the Philippines, the CPI has been on a notably upward trend since May, with the rate of inflation increasing at an accelerating rate since August. Last fall, I explained why this particular signal might indicate an economic downturn (“Aquinomics: Financial Doom for the Philippines?” October 19) from a macroeconomic perspective. In the next column, I’ll explain why that prognosis is still true because of the main use of the inflation rate, which is as the variable determining monetary policy through a practice known as inflation targeting.



    Please follow our commenting guidelines.

    Comments are closed.