Wednesday, January 1, 2020

Inflation, Unemployment, GDP and USD Index Statistics: What can we really believe?

In the next article, “QE4, Repo, Inflation, Debt”, I argue that key measures for inflation, unemployment, GDP and the US Dollar (USD) Index that the government reports and the Federal Reserve (Fed) closely watches are either understated (inflation, unemployment) or overstated (GDP, USD Index), and by a significant amount. Here I discuss in detail the alternate measures that are reported by “Shadow Government Statistics” (SGS), a long-time reputable source for alternate government statistics. I also provide some additional data reported by the U.S. government in each category. 


SGS has an alternate inflation measure that runs some 4% above the currently reported official CPI, and almost 4.5% above the Fed’s tracked core PCE for inflation targeting. The SGS measure diverged from the official government measure in 1983 when the Labor Dept. changed its methodology of reporting, and since 1990 substantially. Basically, the official CPI no longer measures the cost of maintaining a constant standard of living or full inflation for out-of-pocket expenditures. SGS has written a succinct account of these methodology changes and differences [1]. The bottom line is that wage inflation has been far outpaced by real inflation for costs of living and out-of-pocket expenditures. 

It doesn’t take much to look for significant inflation for critical cost of living expenditures, in particular the rise in rents. Housing prices have also risen substantially, forcing those who cannot buy and finance a home to rent, even though mortgage rates are at a secular low. A major contributor to these sharp housing price/cost increases over the last decade arise from sharply rising construction costs. Refer to the attached compiled chart from FRED showing the Case-Shiller Index vs. the official reported CPI for Rents, and the PPI for Construction for new residential homes and building materials from the BLS. The recent high numbers for YoY increases in building costs and new residential home construction are ~8% and 6% respectively. These numbers are probably understated, looking at the reported PPI index value growth over the decade. Even in my local area planners are quoting a whopping 70% increase in building costs over the same period, a real problem for localities with a short supply of rental properties, driving up rental costs substantially and making it difficult for builders to commit to building low income housing. The PCE for Healthcare and Durable Goods reported by BEA has increased to nearly a 5% annual rate, and that is likely understated. 

Given a more realistic inflation rate of 5.7% the Fed should surely be raising its Fed Funds Rate, right? Probably, but with rapidly increasing debt it has chosen not to, using a faux core PCE of 1.6% as its inflation target and stating that inflation is not an issue. 

Cost transparency is critical to gauging price stability. Sharply rising building costs and rising healthcare costs do have supply/demand contributors beyond monetary inflation, but the supply of cheap money has substantially driven up asset prices in certain speculative categories, namely real estate and healthcare. Separating the other contributors out from monetary inflation/risk asset price inflation is difficult but I argue it must be done and all of these cost factors addressed in a transparent set of inflation and cost metrics. Only then can real pressure be put on the Fed and government policy makers for a change. 


The SGS alternate unemployment numbers are probably the most alarmingly divergent metrics from official government reported statistics: 21.5% vs. 3.5% for U3 and 7.5% for U6. Once again, the SGS measure diverged from the government measure when the Labor department changed its methodology by dropping long-term discouraged workers from the U6 measure in 1994, and apparently there are many long-term discouraged workers out there that are unemployed (at least 14%). Where did they go and how do they subsist? Those that can not subsist on savings or the income of a family member are on public assistance or disability. The structural problems in the labor market that contribute to the number of long-term discouraged workers have only become more pernicious. They relate to the drops in productivity, industrial production, manufacturing, and an increasingly negative balance of trade (current balance). Skills gaps are certainly an issue, one business leaders complain about but do little to solve for this group, and any other employment group that might be productively employed in a skilled job. 

So why have long-term discouraged workers been “defined out of existence” as SGS succinctly puts it? Answer: It is politically expedient for both politicians and business leaders. Training costs money that hits the business bottom line and profits, and politicians gain from increasing welfare rolls. The long-term cost to our economy of this ignorance is much higher public debt and a waste of human resources, not to mention an unethical disregard for telling the truth about the real employment situation while taking a stage bow and victory lap for a ridiculous 3.5% number. It will only get worse unless the structural issues are fixed. 


The SGS alternate real GDP is some 4% below the Bureau of Economic Analysis (BEA) reported official real GDP in YoY terms watched by the Fed. The difference stems from adjusting the reported nominal GDP with an alternate measure of inflation that better reflects cost increases that were removed from inflation measures in the 1980s and 1990s, in particular from the PCE deflator, a woefully understated metric reported by the BEA, and used to calculate the reported real GDP. Additionally, the methodology for calculating the GDP was intentionally changed by the Commerce Department/BEA in March-July 2013 that “expanded” the reported gross investment (I) of the GDP (GDP=C+I+G+(X-M)), resulting in an increase to GDP of some 2.5-3%+ ($500B in 2017). Added to gross investment were R&D spending, and royalties/spending for film, music, books, art and theatre (from the BEA [3]: “Private fixed investment in R&D, entertainment, literary, and artistic originals”). Additional changes were made to the GDP calculation methodology in mid-2015 and in 2018 [4], primarily seasonal adjustments for defense spending that smooth out GDP from showing negative growth in certain quarters. 

Basically, between an understated PCE deflator, overstated additions to private fixed investment, and smoothing tricks for defense spending, we now have a reported headline real GDP that avoids any official indication of a recession. How is that useful? It’s politically motivated and it helps policy makers avoid addressing tough systemic problems. It probably also avoids scaring equity and bond markets into difficult volatility. 

Despite these numerous changes over the last 7 years, plus historic easing by the Fed and a marked rise in government spending, we still have rather anemic reported real GDP, <=2%. In reality, looking at the unmodified SGS GDP, we have been in recession for nearly 16 years. 


A strong US dollar is important for purchasing power and reserve currency status. The market US Dollar index DXY and the broader government reported trade-weighted US dollar index have been hovering around a local high since early 2015, likely in anticipation of better economic conditions in the US and a relative reduction of Fed easing. Reception of a strong dollar is mixed – US buyers purchasing imported items generally favor a strong dollar, but sellers (exporters) and multinational corporations generally benefit from a weaker dollar, or they must hedge the dollar in some way. “Beggar thy Neighbor” is an old term used to describe the international race of currencies to the bottom, through currency weakening tactics. Recently, the Fed has not intervened in an overtly major way to influence the dollar, as other central banks have done for their respective currencies. This may change as trade conditions and deals evolve between government “brokers” – the US government executive brokers are already clamoring for a weaker dollar to compete with other major trading partners that have an overtly active hand in weakening their currencies. In the past at various points, intervention to weaken the dollar has happened – serious dips in the U.S. dollar index reflect some amount of intervention contributing to the weakening, primarily of a monetary easing nature. 

The US dollar index DXY is a market index measure of the value of the US dollar relative to a basket of foreign currencies, and is maintained and published by the Intercontinental Exchange (ICE). The data series extends back to March 1973, where it was defined at Index=100, but with backdating to January 1971 (before Bretton Woods!). This index has been a stable measure of the US dollar value relative to the Yen, GBP, Canadian dollar, Swedish krona, Swiss franc and other European currencies that got rolled into the Euro in 1999, the only time this series has been altered. The index measure clearly shows periods of sustained weakness in the US dollar that resulted from monetary easing intervention. 

An alternate measure that is reported by the Federal Reserve Board (FRB)/FRED is the trade-weighted US dollar index, “a weighted average of the foreign exchange value of the US dollar against the currencies of a broad group of major U.S. trading partners. Broad currency index includes the Euro Area, Canada, Japan, Mexico, China, United Kingdom, Taiwan, Korea, Singapore, Hong Kong, Malaysia, Brazil, Switzerland, Thailand, Philippines, Australia, Indonesia, India, Israel, Saudi Arabia, Russia, Sweden, Argentina, Venezuela, Chile and Colombia… Series is price adjusted.” Wikipedia defines this index as “a trade weighted index that improves on the older U.S. Dollar Index by using more currencies and the updating the weights yearly (rather than never). The base index value is 100 in Jan 1997.” I attach a comparison chart of the historic US dollar DXY with the revised FRB trade-weighted US dollar index in the attached graph, with my annotations. I hold back no punches. The FRB attempted to show that the USD index was stronger than the historic DXY, but both show systemic problems with currency manipulation, fiscal instability and economic weakness. 

Another alternate measure of the US dollar index is calculated by SGS as the Financial-weighted dollar index, defined as “a composite value of the foreign-exchange-weighted U.S. dollar, weighted by the proportionate trading volume of the USD versus the six highest volume currencies: EUR, JPY, GBP, CHF, AUD, CAD.” SGS publishes a comparison between the FRB trade-weighted US dollar index and its own SGS Financial-weighted US dollar index, and it shows a 7-10 point difference that indicates that the FRB index is understated as the so-much-better broader index defined in the 1990s to fix the original unaltered DXY series. SGS indicates that this difference stems from the FRB application of the “USD weighted by respective merchandise trade volume against the same currencies.” 


[1] “Public Comment on Inflation Measurement and the Chained CPI,” April 2013,
[2] “Public Comment on Unemployment”, June 2016,
[3] “Gross Domestic Product and Gross Domestic Income Revisions and Source Data,”; and “The Revisions to GDP, GDI, and Their Major Components,”
[4] “Updated Summary of NIPA Methodologies,”

No comments:

Post a Comment