Winship Psychoanalyzes Economic Pessimism
I’ve spent years telling Tyler Cowen that conventional price indices are upwardly biased, so his stagnationist views are wrong. And he’s spent years replying that my views are sadly out-of-date. In this piece, the highly up-to-date Scott Winship unequivocally reaffirms the classic view that indices are indeed upwardly biased. Indeed, the old Boskin Report was probably too cautious:
The chart shows that from 1969 to 2012, the PCE and my extended C-CPI-U series indicate that prices rose by a factor of 5, while the CPI-U-RS gives the ratio as 5.5 and the CPI-U as 6.3. These distinctions are important. If nominal income—income prior to taking the rising cost of living into account—rose by a factor of 7.2 over this period (as my own estimates suggest), using the CPI-U to adjust for inflation would give the conclusion that “real” income rose by 16 percent. Using the PCE or C-CPI-U, we would conclude that real income rose by 45 percent—nearly three times as much. For comparison, the CPI-U-RS would indicate a 31 percent increase—substantially lower than the estimate from indices that fully take substitution into account.
And even this is not the end of the story, because even the PCE deflator is likely to overstate the rise in the cost of living…
Winship then speculates on why people are so resistant to the correct view:
In large measure, the reason is that analysts have tended to take their cues from the Census Bureau, which uses the CPI-U-RS for its income trend figures (but, inexplicably, still uses the CPI-U to adjust the poverty thresholds each year for trend analyses). Very few researchers—even within academia—have expertise in the methodologies of price adjustment (I do not either), so they trust in the decisions of the Census Bureau. I suspect that the Census Bureau uses the CPI-U-RS rather than the PCE deflator partly out of inertia and wanting to stay somewhat consistent with past publications and practices. There may also be internal political considerations, as the Census Bureau and Bureau of Labor Statistics often collaborate, and the latter has been in charge of developing the CPI family of indices.
There is also the reality that many parties in Washington and many outside parties interested in influencing Washington have biases in favor of analyses that convey gloomier news. Advocates and politicians on the left want to promote agendas that involve redistribution and more government intervention into markets. Politicians on the right, meanwhile, must tend to middle class anxieties (and most of these policymakers mistakenly believe, along with other Americans, that our problems are worse than they appear). Policymakers from both parties have an interest in painting a dour picture of the economy when their opponents are in power.
Meanwhile, academic and policy researchers on the left often believe that economic problems are relatively great, and so results that reinforce the view that we have calamitous problems help generate support for their preferred policies. Researchers across the ideological spectrum—and their institutions and funders—want to attract attention, which creates a bias in favor of more dramatic results. And journalists are largely left-leaning*, making them predisposed to believe gloomy economic news, eager to help people in need through their writing, and disproportionately likely to have relationships with left-leaning researchers producing work that corresponds with their priors. Even moderate and conservative journalists face pressures to find and report on dramatic results; if it bleeds it leads. Finally, the spread of overly gloomy results to policymakers, consumers of news, and citizens tend to give people the impression that things are worse than they are, reinforcing many of the dynamics that incentivize gloomy news in the first place. People are generally more pessimistic and negative in polling that asks about the economic problems of others than they are when asked about their own economic situation.
These are powerful forces working against knowledge of the state of our living standards. If you’ve read this far, the challenge is yours to accept: produce a reason to disbelieve the case I have made or change your priors about how well we are doing and hold others accountable in producing, disseminating, and publicizing economic research that conveys the truth as best it can.