PracticalDad Price Index – October 2015:  Statistical Noise on the Fifth Anniversary

The data has been collected and calculated for the PracticalDad Price Index in October 2015 and the result of this 60th monthly edition is a resounding example of minimal change and statistical noise.  The Total Index for the 47 item marketbasket is 106.17 (November 2010 = 100) while the Food-Only Subindex of 37 foodstuff items declined from September’s 107.17 to 107.07 (November 2010 = 100).  The most notable change in the monthly occurred in the lunchmeat and deli cheese items (one pound prices for cooked deli ham and store brand American cheese, respectively).  The price for each item rose by $1/pound at one of the three separate grocers to $4.99/pound apiece and was aided and abetted again by one of the other grocers not having the cheese on the shelves; this meant that the price increase for the one store had a larger impact on the average price of deli cheese due to the absence of the third.  This type of occurrence in which one or another of the stores has an intermittent hiccup in the supply of one item has been noticeable, especially within the past year.  In different months, I’ll go in to price and find that one store of another simply doesn’t have one of the sampled store-brand items on the shelf and in fact, doesn’t even have a shelf tag to indicate that it’s even in stock.  If it’s in one of the chain grocers, I’ll swing by different locations to ascertain if it’s purely a location issue and if not, I’ll simply leave that item blank for that store with the result that the average price for the item is predicated upon two grocers instead of the standard three grocers.

So this is the fifth anniversary of a kitchen table project to ascertain what’s really going on with food prices.  I began the project in the late summer of 2010 because the Federal Reserve had engaged in a series of unprecedented policy manuevers – Quantitative Easing – that had the blogosphere humming with debate of whether this would radically impact prices or whether it wouldn’t be able to offset the feared deflation arising from a near economic collapse in 2008.  Many didn’t trust the CPI issued by the government’s Bureau of Labor Statistics and I figured that I could spew essentially meaningless bytes across the screen calling bullshit or I could put previous experience to use and provide a hopefully meaningful data point.  You see, in the dark and distant past, I had an internship at the research department of a local chamber of commerce and was tasked in that summer to set up the local city for inclusion in the national chamber’s cost-of-living index, measured periodically and compiled for cities across the country.  It was grunt work contacting dozens of businesses to gain their input on an ongoing basis but it was at least educational as I also got to see how the mechanism worked.  When the chamber hired me for further economic research after college (what is the impact of an avian influenza epidemic upon the county’s poultry industry, you ask?), one of my corollary tasks was to continue with the collection of pricing and it was during this period that I was able to meet and work with the researchers who devised the survey for the national chamber.  It’s actually easy once you get it set up, provided that you go to the effort of being thoughtful in the creation of the instrument and follow up with consistency amongst the items priced and it was in the several month creation phase that various things were tried and eliminated.

So what have I learned in the past five years? 

The first thing that I’ve learned is that inflation is not an event with a single cause, but instead a process affected by a variety of often competing factors.  The bloggers and pundits in 2008 were looking at the various QE programs with the idea that the vast amounts of money about to be pumped by the Federal Reserve and other central banks into the system would have a fully systemic effect – a rising tide lifts all boats impact.  There was an opinion, which I shared, that we would go the way of the German Weimar Republic and end up with a hyperinflation that destroyed the currency.  But prices were actually affected by a wide variety of factors.  The Food-Only Subindex – consisting of 37 separate foodstuff items in bread/meat/dairy/produce/staples groups – rose from the baseline of 100 in November 2010 to a peak of 115.13 in December 2014.  While this increase was neither linear nor constant, it did rise as items were affected by different factors.

These factors included such things as simple supply and demand, as exogenous events such as drought or disease affected the price of one or more of the particular items in the basket.  One of the earliest factors captured in the index in the first year was the impact of hot money flows into commodities.  As money from the first QE program began to flow into the financial sector, the wizards of Wall Street promptly began to divert some of that into commodities with the thought that these raw materials had greater value than money itself because it was actually physical so hey, it’s gotta be good because there’s something actually there.  Among the commodities were aluminum, sugar and coffee.  The run-up in oil prices around 2012 and 2013 led to a corresponding significant rise in the grocery store as various forms of cooking oil – which had sources that also served as biofuel sources – rose significantly, albeit lagging the rise in oil prices.  The oil rise was a function of both hot money commodity flows and foreign political factors.

I’ve also learned that while prices can go down again, as it did for items such as canola oil and coffee (although not as low as it was beforehand), stealth inflation packaging is a great way for producers and grocers to gain a little bit more profit margin on their goods.  From what I’ve seen, it’s a great way to ensure a little extra profit margin as nominal prices go down on the newly repackaged item but not enough on a per ounce basis to make it truly cheaper.  It also resets the scale as it were, so that there’s a new baseline price upon which they can act in the future and over time, people will lose sight of how much the original price actually was.

But these factors are truly only temporary factors that can be remedied – and largely have been – with a change in situation.  As the QE programs ended, the hot money flows have diminished significantly and the supply issues will ameliorate over time as either supplies again increase or demand is shifted away and to other items so that there’s a new equilibrium reached.  In each of the commodities already listed – sugar, aluminum foil, coffee and cooking oil – the prices have either stabilized or again dropped, although not to the original level because prices never drop as readily as they increase (thank you, grocers and producers).

So the Food-Only Subindex rose over four years from a baseline of 100 in November 2010 to a high point of 115.13 in December, 2014 and it was this period that demonstrated the effect of the various factors as they overtook the effects of the deflation so feared by the Federal Reserve and other assorted central banks.  But it was in the ten month period from January to October 2015 that deflation took the reins from the other factors as the Food-Only Subindex literally collapsed from December’s 115.13 to this month’s level of 106.17 – a drop of 53% in a period of time only a fifth of that through which the index rose.  Despite the best efforts of the Federal Reserve to move prices upwards, it was in this ten month period that the deflation that it so feared came through as the effects of lower incomes and increased food stamp usage finally surged through the mass economy.  Grocers aren’t stupid.  They live with a thin profit margin and as a result are sensitive to their customers’ needs, wants and especially circumstances.  It’s been in these past ten months that another process, more violent, as surged through as the grocers have found new suppliers willing and able to provide lower-priced alternatives to their clientele.  The Great Depression taught that in a deflationary environment, few businesses survive and the three grocers have each gone to lengths to fight one another – and Walmart – for market share, rolling out new pricing strategies as well as simply finding new suppliers to provide the lowest cost alternatives for the customers.  Yes, other prices are increasing such as rent, health care and tuition.  But when looked at on a market basket basis, it’s the grocery where prices have crashed.

People often learn best when presented with an illustrative point or analogy and it’s here that I’ve struggled for some while to find the right one to drive the point home.  Until this past weekend when I went camping with Youngest’s scout troop and came down to the kitchen area early one morning for a coffee to kickstart the day.  As I sipped the scalding black coffee, I looked at the scoutmaster’s camp stove and noted a pot with a lid to heat up hot water.  But what was different about this pot was that there was a built-in spigot that extended from the bottom and allowed a person to dispense hot water without having to remove the lid or worry about ladles and it was this pot that struck me as the best example of the interplay amongst inflationary and deflationary factors.  Think of the economy and prices in the most general terms as a pot on a stove and prices as the level of the heated water within the pot.  Economic activity is moved by transactions much as water is heated by a source and as the economic activity increases, it heats the economy and prices will generally rise much as the water level in a heated pot will rise when the lid is on.  That’s the view that’s been taken by the economists and it’s to this end that all actions have been taken.  Prices have risen due to some of the factors that we’ve discussed before, the level bubbling due to supply shortages and hot money flows and for all of the effort, the pot really does appear to be active and hot.  But if you keep the heat on the pot yet use the spigot to remove water from the pot for a cup of instant coffee or oatmeal, the water within will continue to boil and bubble and yet the water level will drop despite the heat and this is the deflationary effect.  It doesn’t matter what occurs with the other factors.  Prices for individual items can rise like a bubble, but on a cumulative basis, the price level will drop as the incomes – the water – drain away.  Customers can and will alter their buying habits, replacing steak with inferior goods or simply doing without and the grocers and producers will have to do whatever they can in order to continue to make sales.  And when they can do no more, they’ll simply go out of business like their predecessors in the Great Depression.

So what will be the outcome of this thus-far eight year trip down the monetary rabbit hole?  Will there be hyperinflation that destroys the currency or will deflation win out?  The sad reality is that nobody really knows now since the central banks took actions that literally destroyed the metrics that were used to understand what was happening around us.  This isn’t a national pricing project as several respected financial/economics bloggers have correctly pointed out and I’m not about to pretend that it is; but I do believe that it can and does serve as a reliable datapoint for those who are interested.  And if you’re interested in doing this to satisfy your own curiosity, just be sure to be consistent in the marketbasket over time.  But even if you don’t go this far, make it a point to pay greater attention to what you’re seeing in the stores and on the streets, because it’s our own inattention that has helped this monetary nonsense flourish.

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