Scott Sumner, for the Myth of the Macroeconomy File
By Arnold Kling
There are no solid theoretical foundations for price level theory in a modern economy where hedonics is very important. It’s not just that we’re not good at measuring price changes for computers and consulting services; it’s not even clear what we are trying to measure in theory. Is “a computer” something that yields constant utility? If so, then we need to figure out what utility is. If it’s happiness, and if that’s the theoretical foundation for price level theory, then it means the inflation rate measures the wage increase required to preserve the current level of happiness. In that case, if surveys show people aren’t getting any happier over the decades, then that means RGDP/person is constant. But that’s nonsense. How can inflation be the “theoretically” appropriate variable for these models, if there’s no obvious way to partition computers into prices and output? The only objective fact is the revenue Dell earns from selling computers; the “quantity” is purely arbitrary.
…I’m inclined to argue that average hourly wages are the only reasonably objective nominal aggregate that measures a sort of “inflation” (albeit input price inflation.)
I think there is something to be said for doing a Cartesian meditation on macroeconomics. Descartes asked himself what he could still believe if he distrusted all of the information from his senses. That is how he ended up with “I think, therefore I am.”
I am not saying to distrust everything, but we should worry, for example, that the distinction between nominal and real GDP growth is so heavily influenced by price changes, which in turn require quality adjustment. Presumably, quality change in labor input is slow. That would make wage changes a better indicator of price changes.