There’s phantom inflation all around us
Inflation rose in 2021, with various official measures of consumer prices rising faster than they have for years. But in one crucial respect, the data can underestimate things.
Many types of businesses facing supply disruptions and labor shortages have addressed these issues not by raising prices (or not just raising prices), but by taking actions that could offer their customers a lesser experience.
A hotel room can cost the same as a year ago, but no longer includes daily cleaning services due to a shortage of housekeepers. Some restaurants offer limited service, with stretched waiters. Potential car buyers are advised to be flexible about color and even make and model, lest they face a long wait to get their new wheels.
Customer sentiment about restaurant cleanliness has fallen 4.2% this year, according to Black Box Intelligence, which tracks online reviews of 60,000 restaurants. Complaints were frequent about the cleanliness of tables, floors and bathrooms. Satisfaction with customer service was also on the decline, especially for drinks, with customers complaining more about receiving a wrong order or not drinking at all.
People who are trying to buy home appliances and other retail products are waiting longer. According to JD Power, even at top-rated retailers, just 57% of customers were able to get customer service in five minutes this year, up from 68% in 2018.
Government statistical agencies try to take into account changes in product quality when calculating inflation. But this process, known as hedonic adjustment, most often applies to physical objects. It’s relatively straightforward to estimate the value of, say, the quality of the stitching on a shirt or the value of a rear view camera on a new car. There is a whole world of inflation alarmists who argue that this process leads to real inflation being underestimated.
But quality changes involving customer service can be ambiguous and difficult to measure. The Bureau of Labor Statistics, which generates the Consumer Price Index, does not include a quality adjustment on 237 of the 273 components that go into the index, including the vast majority of services.
Alan Cole, a former member of the Congressional Joint Economic Committee who writes the Full Stack Economics newsletter, noticed this kind of inconvenience on a long drive in the Northeast this summer – fast food restaurants that put plenty of time ahead, poorly stocked condiment stations, soda makers that were out of stock. The dynamic became even clearer for him when he stayed at a hotel that had a large designated area for serving a hot breakfast for guests – it was nearly empty, with a few sad mini cereal boxes.
For years, he had argued that official inflation measures actually overstated inflation, as there were many improvements to below-the-radar products not captured by the data, like software that was becoming less buggy. Now, he concluded, the reverse seemed to be happening.
When there is a shortage of labor or supplies, some businesses adjust primarily or entirely by increasing their prices. Others find less obvious and less measurable ways of coping. Consider, for example, rental cars versus hotels. Both were facing shortages. But they manifested themselves in different ways.
“The automaker only had to charge higher prices, while the hotel could instead suffer the consequences through the quality of service,” Cole said in an email exchange. “We measure them in different ways. The automaker’s problem is measured in terms of inflation, while the hotel’s problem is mostly relayed by anecdotes.
It is not uncommon for companies to face supply shortages through mechanisms other than price increases. Retailers don’t want to face accusations of rising prices when goods are scarce, especially during natural disasters. They end up with empty shelves, a form of back-door rationing. In the 1970s, gasoline prices skyrocketed, but not enough to prevent long lines and rules about which cars could refuel on what days.
This particular economic crisis had far-reaching consequences that made economic data more difficult to interpret than usual. “Usually when there’s a disaster, if you’re a macroeconomist, it’s a stain on the radar screen,” said Carol Corrado, a distinguished senior researcher at the Conference Board who has studied measures of inflation. “But we are talking about a different kettle with the shock of Covid, and the economic implications and costs have become much more difficult to measure than in the past.”
It would be difficult for government statistical agencies to try to measure these hidden costs and incorporate them into measures of inflation, say people who study the data closely.
Customer service preferences, especially the value of good service, vary greatly from person to person and are difficult to quantify. How much more would you pay for a fast food burger in a restaurant that cleans its toilets more often than the one across the street?
“What reaches the level of a quality adjustment becomes quite subjective,” said Alan Detmeister, senior economist at UBS who previously tracked inflation data for the Federal Reserve. “If the Ministry of Labor even decided it wanted to adjust the quality of some of these things, it would be very difficult to do so.”
In some cases, improving the quality of one person is the deterioration of another. Is online hotel check-in a desirable time-saving feature or a loss of personal touch that has real value? Reasonable people can disagree.
Moreover, while there appears to be some shadow inflation in service industries, the reverse has arguably been true for many years.
Suppose you think restaurant food has become more varied and delicious over the past few decades as chefs have become more skilled and creative. If so, perhaps the 2.7% average annual inflation in full-service restaurant prices from 2000 to 2019 reported by the Bureau of Labor was too high.
It is plausible to believe that this is true, and also that the 4.9% increase in these prices in the 12 months ended in August was too small if the effects of labor shortages had been fully taken. into account.
This indicates why inflation bothers people so much – and why it is a political minefield for the Biden administration. It’s not just the prices you see and the numbers that fuel business models, or news headlines and central bank inflation targets.
It’s also that a given amount of spending buys experiences that are a little less satisfying, and that adds up to a build-up of frustrations that don’t necessarily translate into the numbers.