How “Useless” Ingredients Cause Price Increases Not Attributable to the Fed

The problem with the word inflation is that it treats two different phenomena as if they are the same.

We need to look at the idea of purchasing power from a new angle. Purchasing power is assumed to be intrinsic to the currency. We have said that the problem with the word inflation is that it treats two different phenomena as if they are the same. One is the presumed effect of rising quantity of dollars. The other is the effect of rising regulatory and tax burdens.

Let’s use milk as an example. Suppose the price of milk was $1 per gallon. Many would say that a dollar’s purchasing power is one gallon of milk. Suppose that later, the price of milk rises to $2. Then, people say that the dollar’s purchasing power falls by 50%, to half a gallon of milk. Regardless of what you call it, everyone would agree that the dollar buys less than it did.

Until now. Let us explain.

One can think of production as buying a bunch of ingredients, and mixing them together in a certain way, to create the product. For example, milk comes from the ingredients of land, cows, ranch labor, dairy labor, dairy capital equipment, distribution labor, distribution capital, and consumable containers.

Now suppose—this is purely hypothetical and could never happen in the real world—the government enacted a regulation: Dairy farmers are required to tag every cow. This adds some new ingredients to the milk product: consumable tags, tag labor, and tag capital equipment.

Next, the government decides that it wants dairy farmers to pay for its costs to inspect the tags and audit the tag-tracking records. Add government inspector labor to the list of ingredients.

Regulation after regulation is passed, controlling the use of land, the number and treatment of the cows, the workers, etc. By the time all’s said and done, the cost to produce a gallon of milk is ten times higher.

Of course, the retail price of milk is not directly connected to the cost of producing it. If you doubt this, then maybe you will go out and buy a new BMW 750 and then tell your boss that now your cost of living is higher, and therefore your wage must go up! In all seriousness, if milk producers could charge more, then they would already be charging more. A rising cost of production is the producer’s problem.

However, no one can sell at a loss for long. So what happens in reality is that producers try to raise their prices. Some consumers are unable to buy milk at the higher price. Others are unwilling. The marginal milk buyer stops buying milk, and may switch to a substitute. The net result is the bankruptcy of some dairy producers, a decline in quantity of milk purchased by consumers—and much higher prices.

In our example, the cost to produce increased tenfold. The price to buy milk will likely end up close to that (and, of course, there are other variables that can affect price in a real economy).

In this light, we can see that it is not right to say that the dollar’s purchasing power decreased by 90%. The dollar is paying for just as much as it did, previously. It’s just that the things it buys are increasingly not the things that consumers care about (or even know about). Things like supersized Americans-with-Disabilities (ADA) bathrooms for dairy workers, extra motel stays for milk truck drivers due to mandatory stops, forced vitamin D addition, special plastic jugs, taxes, fees, permits, licenses, etc.

A lot of labor and capital goes into all this government-mandated stuff. If we look at each of them as an additional ingredient that is now necessary to produce milk, we can see that it’s not that the dollar’s value dropped. It’s that more ingredients went into the milk.

The term purchasing power suggests something that is untrue.

There are four points we hope that readers will take home from this. First, the term purchasing power suggests something that is untrue. It suggests that the quantity of milk that can be bought for a dollar is intrinsic to the dollar, and has nothing to do with what goes into producing milk. Second, whatever the word for forcing milk producers to add more and more useless ingredients may be, that word should not be the same as the one that refers to monetary debasement. Third, people should demand the repeal of laws that force milk producers, and car producers, and home producers, and every other kind of producer, to add ingredients that increase the cost without increasing the value. And fourth, the Federal Reserve (Fed) deserves the blame for many ills, but this is not one of them.

Add this to the list of reasons why the dollar cannot be measured in consumer prices, why it is not proper to say that a dollar is worth one tenth of a gallon of milk.
So how can the measurements separate the issues? One way could be to separate useless ingredients from the necessary ones.

A New Inflation Indicator

There are eight necessary ingredients, without which milk cannot be produced.

But, today, the welfare, regulatory, and litigation state forces dairy producers to add numerous other ingredients such as paying for food stamps for unemployable people in the inner cities hundreds of miles away from the dairy farm, tracking tags, giant wheelchair-accessible bathrooms, etc. We called these useless ingredients.

Everyone uses the word inflation, when prices rise. Milton Friedman famously said, “Inflation is always and everywhere a monetary phenomenon,” but we have just disproved the second half of his sentence, which is:

“… in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.”

Au contraire, Monsieur Friedman. Rising prices can be produced by forcing producers to add more useless ingredients!

They’re doing it to every industry. Not the Federal Reserve—this price rise has nothing to do with the quantity of dollars in circulation. Yet everyone thinks the problem of rising prices is intrinsic to the dollar itself. If you participate in the gold  or sound-money communities online, you have seen many pictures of the eroding dollar, the shrinking number of goods in a shopping cart, nostalgic gas station signs advertising 20 cents a gallon, etc.

Inflation is a weak argument for restoring the gold standard.

As an aside, inflation is a weak argument for restoring the gold standard. We had quite a high rate in the 1970s, but that was not (nearly) bad enough to make many people seriously propose a return to gold. Today’s much-tamer rate barely musters lip service even from the usual suspects. Wage-earners care only that their wages rise as fast as prices—and when they don’t, they are mostly angry at their employers. Pensioners on fixed incomes care only about their annual cost-of-living adjustment (COLA), and if it doesn’t keep up, they get mad at the politicians who set it. The welfare classes care only that their EBT (electronic benefits transfer) cards still work. And the one-percenters are happy, because asset prices are rising much faster than consumer prices.

Has the price of a new Honda Accord has risen a lot? In 2019, the base model starts at $23,720 without options. In 2018, it was $23,570. It has increased by $150, or 0.6%. We have no idea what new useless ingredients have been added to the 2019 model.

In 2009, the car cost $20,905. Thus, the 10-year increase was $2,815, or 13.5%. We don’t know exactly what the 2019 Accord has that the 2009 did not, though we note that it had a 4-cylinder engine producing 177 horsepower. The 2019 has 192 horsepower, or 8.5% more.

This raises the idea of hedonic adjustments. For example, the 2019 Accord is a better car (and not just with more power) than the model ten years prior.

This raises the idea of hedonic adjustments. For example, the 2019 Accord is a better car (and not just with more power) than the model ten years prior. A hedonic model would attempt to analyze all of the improvements, to determine what part of the $2,815 price increase was due to improvements in the car vs. how much was due to inflation.

An analysis of useless ingredients may seem similar to hedonic adjustment. Both attempt to break the price increase into a monetary and a non-monetary component. In our observation, it is pretty hard for most people to get their heads around hedonic adjustments. Many people openly scoff at it, as mere Fed propaganda.

The concept of useless ingredients may be an even harder sell. The consumer seems to be getting nothing, yet the price is higher. Therefore, he insists, purchasing power is down. We insist that the dollar is purchasing just as much as before, only it’s purchasing stuff that buyers don’t value. And even stuff about which buyers do not know.

The problem with hedonic adjusting is that it’s inherently subjective. How much is 15 more horsepower worth? How much did it cost? It is easy to assume that better algorithms in the engine computer may increase horsepower without increasing costs. This may even be true in many cases.

Adjusting for useless ingredients is more straightforward, at least in theory. Assuming producers can account for costs, we could see how much each added useless ingredient adds to the final price.

In practice, it would get tricky. In our milk example, the dairy producer must buy containers to put the milk in for retail sale. The container producers are also forced to add useless ingredients, and hence their prices also are rising. The dairy producer would need that data, in order to include it in their own “useless ingredient” component.

We would love to see the Useless Ingredient Adjusted Consumer Price Index (UIA-CPI). It would certainly help lay to rest the undead creature known as the Quantity Theory of Money. Which even today plagues students of economics, who see rising prices as Milton Friedman did. Identifying the real culprit, printed in black and white every quarter, would be a good thing for the field of economics.

We are reluctant to call for the Bureau of Labor Statistics to calculate UAI-CPI (even with a catchier name), for one simple reason. The last thing we want is a new regulation that forces producers to report on all useless ingredients, assigning a cost to each. The cost of this reporting would itself be yet another useless ingredient added to the production of cars and milk!

Perhaps large companies already gather all the data necessary to calculate the cost of useless ingredients for their products. If so, we would encourage them to publish it.

The only catch is that most people would take exception to our phrase “useless ingredients.” They might reluctantly concede that the cost of compliance is rising. But they would quickly retort that we need all these ingredients. Otherwise, pharmaceutical companies would poison their customers, carmakers would maim, and banks would impoverish them, for profit.

As always when it comes to government intrusion into the market, most people will defend it. Not only defend it, but they often reject concepts and ideas that threaten to shed light on the costs of such intrusion. Sometimes, they want not to know.

We would bet an ounce of fine gold against a soggy dollar bill that advocates for the disabled, want to keep hidden the cost added by ADA-compliant bathrooms. Every monger of every regulation prefers to keep the cost hidden, smirking as everyone’s ire is misdirected at the Fed (ironically, just as the Fed is smirking that workers misdirect theirs at employers).

In case there is any doubt, we will add this quote from Bastiat:

“Socialism, like the ancient ideas from which it springs, confuses the distinction between government and society. As a result of this, every time we object to a thing being done by government, the socialists conclude that we object to its being done at all. We disapprove of state education. Then the socialists say that we are opposed to any education … It is as if the socialists were to accuse us of not wanting persons to eat because we do not want the state to raise grain.”

That is precisely our view of employers accommodating employees. Most employers would do what they could (without adding ever more useless ingredients to their products). Most people will bend over backwards to be kind. That’s not what useless ingredients are about. Which is why they have to be forced on businesses by government. No business would choose to serve its customers less and less, while doing useless work that they don’t want done.

Anyway, we’ve beaten this topic to death. The purpose, behind the humor and the moral of the story, is that there is a great misconception of monetary economics. To understand useless ingredients is to recognize the misconception: the value of the dollar is not 1/prices.

Related Posts:

1. Transcript: Podcast with Economist and Anti-Lockdown Activist Gigi Foster
2. Professor Gigi Foster on the Savvy Street Show
3. Harris’s “Wide-Ranging Economic Policy”—Arrest Your Greedy Baker

   

About the Author: Keith Weiner

Keith Weiner is president of the Gold Standard Institute USA in Phoenix, AZ, and CEO of precious metals fund manager Monetary Metals. He created DiamondWare, a technology company that he sold to Nortel Networks in 2008. He speaks and writes about free markets, money, credit, and gold.