Many believe that the January increase of the Consumer Price Index portends a revival of the inflation that accelerated in 2021, reached a peak in mid-2022, and followed a downward trend until very recently. The CPI, however, is simply a cost-of-living index based on a typical basket of consumer goods. It catches both the change in the general level of prices and changes in relative prices. A similar problem, due to the nature of price indexes, mars the Personal Consumption Expenditures (PCE) index. Quoting or paraphrasing an economic consultant (without quotation marks) about the rise in the CPI growth, a Wall Street Journal reporter echoed the general confusion between inflation and relative price changes, and about the nature of price indexes (“Inflation Heated Up in January, Freezing the Fed,” February 12, 2024, update of 9:41 am ET):
The bigger-than-expected increase in prices last month largely reflected higher prices for used cars and auto insurance, said Omair Sharif, founder of research firm Inflation Insights.
If an acceleration of inflation is really happening, it would not largely reflect the higher used car prices, it would be the other way around: these specific prices would partly reflect the higher inflation. A recorded price change is made of its relative change (relative to other prices) and the impact of inflation. (On that topic, see my post “Does a Price Decrease Fuel Deflation?” as well as my chapter “A Rising Product Price Doesn’t Cause Inflation,” in Ryan Bourne, editor, The War on Prices.)
The increase in used car prices could be simply a change in relative prices—the consequence of car buyers realizing that the American tariffs threatened or announced on automobiles manufactured in Mexico and Canada as well as on steel and aluminum will increase the price of new automobiles on the American market. An estimate of a $3,000 increase in the price of the average new car looks realistic, if not on the low side. Consequently, we would expect many buyers to shift to used cars, arbitraging the price difference between the two substitutes. Prices would start changing as soon as the tariffs are expected. The increase in car values would also lead to higher automobile insurance prices because of higher accident costs. Such price increases would reveal no inflation in the sense of a self-sustained increase in the general price level. (On used car prices, see my 2021 post “No Mystery in the Current Used-Car Market” and my 2022 follow-up “Do Used Car Prices Vindicate Adam Smith?”)
Through inflation or relative changes, prices do change. And inflation can happen. How will the state react and what can be the consequences? Here is, under the form of a simple model, a possible scenario—until, in my last paragraph, the causal strands become too numerous and the fog of the future too opaque.
Imagine a country—call it “Syldavia” if you will—ruled by an ignorant bully. (My model is a wink to behavioral economics, but note that the ignorant bully still behaves rationally given his character and circumstances.) His policies cause a rise in some relative prices that are politically touchy. Unbeknownst to him and hidden by his flattering sycophants, some of his policies such as a series of high customs tariffs can also cause a supply shock, that is, a broad downward shift in the economy’s production possibility frontier. This would cause a one-time jump in the general level of prices and a fear of stagflation. The ruler will be tempted to counter the problem with an increase in the money supply by pushing down interest rates or other interventions to the same effect. (Viktor Orban, the Hungarian ruler, tried that.) Undoubtedly, this will start or increase inflation, a politically self-sustained increase in the general level of all prices.
As the incipit of Anthony de Jasay’s The State asks, “What would you do if you were the state?” How will the ruler of Syldavia reacts when inflation and economic stagnation have started? He may try to hide the inconvenient numbers by stealthily ordering the deep state’s statistical agencies to cook the books. (“I have a good intuition of what the numbers are.”) Some high-level statisticians will resign or be fired; under Mussolini, they were quite malleable. The more the chief ruler lies, the more his minions will. The real economic trends will still be reported by private economists and, as long as a free press exists, through “fake news.” Prices on financial markets won’t lie, if these markets remain more or less free.
What would do then if you were the ruler of Syldavia? You would impose some price controls, perhaps starting with prices that are visible, politically sensitive, and easier to control. Shortages will soon appear. To quell popular discontent as the situation worsens, you will likely follow up by decreeing general wage and price controls. (Richard Nixon could not resist the temptation in the early 1970s, which did not prevent stagflation from dominating the rest of the decade.) After all, if the ruler doesn’t like a price, he only has to forbid people to quote it or to pay it, at least on legal markets. Just forbid it! The police or the army can take care of that problem (if they are not part of the corruption).
From then on, different scenarios are possible in Syldavia, a country with unlimited democracy. A very detrimental scenario, although not at the extreme of the catastrophe spectrum, is the Argentinization of Syldavia. Perhaps, in a century or so, after many Peron-like rulers, a Javier Milei will appear to restore the old-time prosperity. But perhaps not.
******************************

“The Baby King Breaks His Subjects’ Toys,” by DALL-E inspired by your humble blogger
READER COMMENTS
Craig
Feb 14 2025 at 9:24am
The .5% M/M CPI reading this Jan 25 particularly after last months .4% uptick was dismaying. Still I look at current growth in money and I remain in Team Disinflation for now. While it tests one’s convictions, things don’t seem to go up or down in a straight line (I recall a 0% reading in June 22 near peak of most recent inflationary episode). I am thinking January effect might be at least partly to blame.
Pierre Lemieux
Feb 14 2025 at 9:58am
Craig: Note that in my Syldavian scenario, the supply shock created by an increase in the cost of most goods through protectionism and the reaction of the central bank are what start inflation.
Craig
Feb 14 2025 at 11:37am
Its bad between a dozen roses and a dozen eggs, my wife chose the eggs….. ,-)
Jose Pablo
Feb 14 2025 at 12:09pm
He may try to hide the inconvenient numbers by stealthily ordering the deep state’s statistical agencies to cook the books
For instance, the ruler could fire the head of the statistical agency “due to changing priorities of the new administration“, and appoint a new one that is more in line with the new “vision” for future inflation.
Alternatively, they could halt the publication of new figures—just as the Chinese leader did with youth unemployment.
One doesn’t need expertise in economics to alter reality (or at least make inconvenient aspects of it disappear). After all, what is power worth if not the ability to shape reality at will?
If the ruler cannot be wrong, then reality must be. And it becomes the ruler’s foremost duty to suppress figures that might suggest an incorrect version of reality.
Craig
Feb 14 2025 at 12:20pm
With respect to CPI you might enjoy a quick visit to ‘Truflation’ website to see their methodology. Obviously if govt cooks books Truflation becomes a competing source of information.
Jose Pablo
Feb 14 2025 at 1:41pm
They will be sued and forced to shut down. The ruler will have little patience for enemies of the American people.
They could relocate overseas, but any country that hosts them will soon face massive tariffs—very likely 100%, the highest possible rate.
Mactoul
Feb 15 2025 at 10:40pm
Why is 100% maximum tariff?
I believe India had 200 % import duty on luxury cars
Pierre Lemieux
Feb 16 2025 at 11:20am
Mactoul: As you can see in a previous post, Jose is referring to a declaration by Trump suggesting that the very stable genius thought a 100% tariff is arithmetically the highest possible. In reply, I provided Trump with a logical defense:
Nothing can be bigger than itself.
Itself is 100%.
Thus, nothing (including a tariff, obviously) can be bigger than 100%.
KT
Feb 15 2025 at 1:05pm
Truflation might have a flaw. Lars Christensen had a blog post about it the other day. While breakevens, inflation expectations, etc were all going up, truflation was going down. Although I see now it’s going up.
Roger McKinney
Feb 14 2025 at 7:44pm
“This would cause a one-time jump in the general level of prices and a fear of stagflation.”
Policies that cause price increases in certain goods as tariffs do can’t cause a general price increase because consumers will have to reduce spending on other items to be able to pay for higher prices in imports. So the aggregate won’t change. General price increases can only happen with an expanding money supply.
The Sylvadian king will likely follow the popular press and blame greedy businessmen.
Thomas L Hutcheson
Feb 15 2025 at 8:48pm
If he were smart he woud blame the monetary agency either for inflating and preventing unemployment or for not inflating and causing the unemployment. Either way he has grounds for firing them. 🙂
Pierre Lemieux
Feb 16 2025 at 11:14am
Thomas: Great idea. Have you ever thought of running for power?
The ruler of Syldavia will indeed end up suppressing (or at least trying to suppress) any autonomous agency within his government, including an autonomous central bank. If he succeeds, he will need to shift the blame to somebody else. Pet-eating Haitians can do as scapegoats for a time as can other internal “enemies of the people” such as the press and private think tanks. Stalin can provide a model. Ultimately, he may have only outside foreigners to easily blame.
Thomas L Hutcheson
Feb 17 2025 at 6:59pm
In University I was in student politics, the Assembly and at one point voted with my party [At U of Texas in the ’60’s we had student political parties. 🙂 against what I knew was right and realized that I am unfit for office.
Pierre Lemieux
Feb 16 2025 at 11:30am
Roger: I agree. In fact that’s what I am saying, but further taking into consideration the possibility of a supply shock, that is, “a broad downward shift in the economy’s production possibility frontier.” Depending on how exactly the ppf shifts down and the movements (of relative prices) along the ppf, you can theoretically get the paradigmatic case of a proportional increase in all prices, just as if the money supply had been increased ceteris paribus. Without an increase in the money supply, however, the result will be a one-shot increase in the general level of prices.
Mactoul
Feb 15 2025 at 10:44pm
Why no joy over this unprecedented downsizing of government that is currently being attempted?
Surely it is a bit heavy-handed and somewhat hit-and-miss but the thing is getting done and I am sure a non-authoritarian personality type isn’t the type capable of taming the Federal bureaucrats.
Thomas L Hutcheson
Feb 17 2025 at 7:02pm
https://www.youtube.com/watch?v=PDBiLT3LASk
Comments are closed.