Measuring the Cost of Living - The Impact of Technology on our Standard

Measuring the Cost of Living - The Impact of Technology on our Standard of Living Measures of the cost of living, like the retail price index (RPI), are inadequate, failing to reflect fully the impact of technological advances on our standard of living. This leads to a substantial upward bias in our estimates of inflation, perhaps as much as 1.6% a year. That is the contention of Professor William Nordhaus of Yale University. If he is right, then we may have to rewrite history: l Increases in the price of lighting services since 1830 may have been overestimated by as much as a thousandfold! l US real wage growth between 1959-95, currently measured at a very modest 10%, should be revised to a healthier 70%. l And estimated average annual rates of US productivity growth of 0.6% between 1973-95 should nearly be tripled. Nordhaus notes that consumer price indices like the RPI are some of the most important measurements generated by economists and statisticians. Ideally, they are designed to measure the cost of attaining a given level of economic well-being. In practice, statisticians take a ‘basket of goods’, which represents the consumption patterns of the ‘average consumer’, and measure how the cost of this fixed basket changes over time. This statistic is used to define ‘inflation’, and hence determines changes in a wide range of inflation-indexed state payments and benefits, as well as setting the background for pay settlements. It is also crucial for measuring the real growth of the economy, a key statistic in assessing the economic and political performance of the economy and government policies. Nordhaus argues that the current methods for measuring the cost of living are inadequate and fail to refl... ...s and output. Over the period 1959-95, the increase in real wages is currently measured at a very modest 10%: it should be revised to a healthier 70%. Estimates of productivity growth over the period 1973-95 indicate an average annual rate of 0.6%: this should nearly be tripled. ‘The fact that we may be getting such an important statistic as the RPI wrong by so much indicates that we really need to look again at the way it is calculated in the UK’, claims Professor Huw Dixon of the University of York and CEPR. ‘Since so much depends on the inflation rate measure, we need to make sure we are getting it right’. Note: ‘‘Traditional Productivity Estimates are Asleep at the Technological Switch’ by William B. Nordhaus is published in the Controversy section of the Autumn 1997 issue of the Economic Journal. Nordhaus is Professor of Economics at Yale University.