Why Inflation in the US is Much Higher Than We Think

Inflation is an inherently difficult quantity to measure.  The price of a good can change based on the technology used to produce that good, how technologically advanced a good is, and how competing products are affected by the same aspects.  For example, with something as fundamental as bread, the technology involved in farming and harvesting wheat significantly alters the cost of the product.  A computer from 2005 is practically worthless now, and a very expensive computer now will be practically worthless in another ten years.  Nevertheless, we use inflation as a metric for the health of the economy.

Here is a chart showing the value of $1 at different points in time according to the US Bureau of Labor Statistics [1].  We see the familiar approximate exponential that arises with compound interest.  And although we can quibble about how these numbers are calculated, let’s accept these numbers for the purposes of this document.  I claim that inflation is much worse than currently captured by this chart.

cpi

My issue is that the price of a good only tells half of the story.  To illustrate my point, I will define a new metric called the wage ratio, defined as

wageratio

That is, the wage ratio is the price of a good divided by the wages paid to produce that good.  Note that this is a significantly different metric than price.  In particular, the price of a good can increase, but if wages increase by the same factor then the wage ratio remains the same.  We can consider how this wage ratio has changed over time; i.e. we can observe the inflation of the wage ratio.  For example, we can ask ourselves, “For a wage ratio of 1 in 1950, what is the corresponding wage ratio in 2015?”  The figure below presents how wages in the US have changed over time [1].

wagevstime

In 2014 dollars, average hourly wages have remained stagnant.  And so that would indicate that the wage ratio is increasing at the rate of prices.  That is, the wage ratio is increasing exponentially.  However, this is misleading.  If you exclude food, most of our goods are no longer manufactured in the US.  Our goods are now manufactured in China, Mexico, and other countries where wages are not nearly what they are in the US.  The average migrant worker in China makes approximately $473 a month [2] (approximately $3 per hour assuming a 40 work week).  This is far less than even the minimum wage of the United States.  The average hourly wage in Mexico is currently $5.5[3].  In an extreme example, Child labor is used to harvest the chocolate that we eat [4].

Here the wage ratio is enlightening.  Where price (inflation) would indicate that there’s been a factor of 10 difference between a dollar in 1950 and a dollar today, we see that the wage ratio has changed by more than a factor of 100.  That’s a much more significant reduction.

This is a problem for two major reasons.  1) In order to keep prices from skyrocketing upwards, we’ve shipped jobs out of country.  Due to NAFTA alone, we’ve lost one million jobs [5].  This has left millions of Americans out of work (when you take into account the support positions those jobs would have funded).  2)  We are enriching China, our most significant military adversary [6].

Finally, we may run out of room to reduce wages.  This is already happening; the wages for migrant workers in China are increasing [2].  To combat this, there is a large technological development to create artificial intelligence capable enough to replace human workers [7].  And there are have been some significant successes (e.g. Google search).  But, for those jobs that require a human, wages will cease to decrease.  With wages stagnant, the only aspect of the wage ratio left to change will be price.  And thus, if nothing is changed, the true devaluation of the US dollar will be reflected in the price.  Instead of prices changing by a factor of 10 we will see the factor of 100 that we now only see in the wage ratio.

[1]  http://data.bls.gov/

[2]  http://www.bloomberg.com/news/articles/2016-03-22/china-s-great-wage-boom-seen-subsiding-with-unemployment-rising

[3]  http://www.businessinsider.com/mexicans-get-paid-less-for-their-work-than-any-other-developed-country-2015-7

[4]  http://fortune.com/big-chocolate-child-labor/

[5]  http://www.huffingtonpost.com/lori-wallach/nafta-at-20-one-million-u_b_4550207.html

[6]  Death by China, by Peter Navarro

[7]  http://fortune.com/2016/10/28/economists-artificial-intelligence/

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