A.I. – Artificial Inflation – November 2018
I have been experiencing a spate of not so subtle price increases. When prices go up it is known as inflation. Measuring inflation for the economy is a monster of data collection.
The most common inflation indicator is CPI, the Consumer Price Index. It is good for a very broad sense of inflation but not as encompassing as the Underlying Inflation Gauge (UIG).
The UIG should pick up on the types of inflation I am going to talk about.
What I want to know is if you can have inflation without prices going up.
It seems counterintuitive.
The price increases I have experienced are more like sneaky or artificial inflation.
Inflation that is disguised as something else. Inflation that cannot be immediately measured.
Sneaky Inflation:
One of my favorite restaurants was sold to a new owner. The restaurant is a popular neighborhood place. It is a small restaurant with a menu that rarely changes, but people love it. There is a steady clientele. Knowing the sensitivity to sudden changes, the new management vowed to keep the menu, the recipes and the prices the same.
My first trip to the restaurant under new management appeared to honor the same menu at the same prices. So far so good.
I ordered the salad I always order. Yeah, always, boring. When it arrived, the portion size was half the size as before.
Yes, it looked the same, tasted the same and is the same price but hey, half the size as before?
This is sneaky inflation because the price may stay the same, but the cost of the ingredients has gone down for the new owners.
I might decide, at half the previous serving size, the salad costs to much. When the value of something you want is more than you are willing to pay, the price becomes inflated.
Inflation is measured by the change in prices. This type of inflation is not easy to measure because it is not obvious.
Did the new owners think I wouldn’t notice? It was obvious.
Disaggregated Inflation:
It’s the little things.
You are looking forward to getting pesky gray hairs that appear out of nowhere, covered up. In the past, your hair salon always provided a complimentary blow dry.
One day without warning, your hair is wet, and you are handed a blow dryer.
Gone is the complimentary blow dry.
Now you must make an additional appointment for a blow dry. And of course, the blow dry is an additional expense. The cost of the root coverup is the same only if you leave the salon with wet hair.
The problem for a business with this type of disaggregated pricing is that you now have a choice. Once you have a choice, there is a risk to the management of the salon that the pricing strategy fails.
Maybe an assumption was made that no one would walk out with wet hair, but I can assure you that I have walked out in the dead of winter in New York City with a hat because I find the practice so sort of unethical.
It doesn’t seem like a good business plan if you want to advertise what a great job the salon does.
The minute a service provider artificially increases prices by disaggregating services, they are forcing you into a “pay more or else” situation.
Real Inflation:
The digital display of prices at the corner gas station look like a trading screen. The price of gas never stays the same.
With digital displays and real time information gas station owners adjust prices constantly. Buying gas is like playing in the commodity markets, you can’t quite figure out which way prices are going.
Last week I paid $3.98 per gallon without the car wash. If I choose the car wash the price per gallon goes down 10 cents.
This week the price per gallon without the car wash jumped to $4.07.
Do I stop driving for a week and wait for prices to drop?
The gardener is raising prices every year because labor costs and taxes are going up.
It is understandable but at what point do you decide to do the gardening yourself?
The interesting aspect of price inflation is how you choose to deal with it.
In economics speak it is called substitution. In English you could just say choose.
Do you go to another restaurant with bigger portions of food (your money’s worth) but maybe the food is not as good?
Do you go to the restaurant less frequently?
Do you decide to skip a service (hair, gardener) to save money?
Do you cave and pay for less salad or an add on service?
Do you get the car washed to save 10 cents a gallon?
Once someone is given a choice, the provider will find out very quickly if they anticipated your behavior correctly.
So how does my theory of artificial inflation apply to the economy today?
What we know is that human behavior is not predictable. Developing a sneaky price increase is a risk-taking strategy that can have very negative consequences.
Growth in our economy is driven by consumer spending.
If consumers stop or slow down their spending, what happens to the economy?
The economy starts to slow down.
Like the bubbles in the video above, there are many moving parts to the economy. Bursting the bubble of consumer spending is not the way to move the economy forward.
My recent adventures in artificial inflation tell me that spending patterns will change. Not today or next week, but likely in 2019.
When you start to experience the feeling of being cornered into paying more and receiving less, you have a choice.
I know that my experiences of smaller portions, wet hair, an expensive gardener and volatile gas prices are not isolated.
I also know If it is happening to me, it is probably happening to you too.
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