Defining Away Economic Failure

by on February 9th, 2004

How the government manufactures low inflation

MSN’s Bill Fleckenstein has discovered a great way for consumers to save money on all kinds of products and services. Moreover, using this trick will also make you richer and improve your economic outlook for the future. The answer: hedonics.

Simply put, hedonics is a math trick the government uses to define lower revenues and higher prices as “quality improvements” in order to make them disappear. For example, official government estimates state that tech spending increased from $446 billion to $557 billion between spring 2000 and fall 2003. However, $72 billion of that money doesn’t exist. Instead of stating that tech spending rose only to $488 billion, as actual receipts indicate, they call it “real tech spending” and add on $72 billion for the quality improvements in computers over that period. In other words, since it would have cost $72 billion more to buy in 2000 all the neat stuff we bought in 2003, the government feels it should be able to count that as economic growth and take credit for it.

I’m planning on using this wonderful form of accounting to enhance my personal finances in the coming year. For example, although I’m only making about $30K a year, I estimate that my growing intellect and improving skill set are worth at least an extra $10K on top of that. As such, I should be entitled to spend at least $40K this year. Additionally, although the price of my cell phone service is going up about $10 a month, since I’m getting extra night and weekend minutes added to my plan, I’ll keep budgeting the same amount to pay for it. After all, I’m getting more for my money, so there’s apparently no actual price increase.

The government may soon be using this method to lower your healthcare costs–at least on paper:

” the [ Bureau of Economic Analysis] is considering the use of hedonics to lower the impact of rising medical costs on the CPI by subtracting the imagined value of quality improvements in medical care from the price we’re really paying. The government recognizes it has a problem with exploding health costs and is studying the use of that same quick fix which has “worked” when unwelcome rising prices have been an issue in other areas, i.e., to define the problem away. I would imagine that when the folks at AARP and organized labor find this out, they’ll be up in arms. Maybe their clout can stop this nonsense before it gets even worse.”

It’s not just the AARP that should be upset. Government estimates of healthcare costs are used in all sorts of ways, from deciding what insurance benefits workers need to awarding medical expenses to injured plaintiffs. In fact, since Medicare payments are based in part on healthcare GDP, those of us not on the public dole may actually see our medical costs go up as hospitals charge us more to cover the deficit when payments for Medicare patients are reduced.

It’s all well and good to try to account for how productive and technologically advanced we are. In fact, maybe the use of hedonics points to the need for some kind of “Product Improvement Index” to find out just how much better our stuff is getting. But that’s no excuse for telling us that we’re richer than we really are. All that does is make us feel poor.

Amy Phillips