How the U.S. government cooks the economic books

There's a great column in the 5/23/08 issue The Week magazine on how the U.S. government plays with economic data to make the economy seem stronger than it is. That's why you can find your own household budget straining to meet higher energy and food prices but then read official government reports that seem to ignore reality. I have a saying I tell clients: "You can't fix what you don't admit." Too bad the government doesn't know that one. From the article (subscription required):

The federal government’s economic numbers simply cannot be trusted, said Kevin Phillips in Harper’s. To see how the numbers have been “corrupted,” check out the three most closely watched economic measures—the Consumer Price Index, which tallies inflation at the retail level; the Gross Domestic Product, which tracks the economy’s overall growth; and the monthly unemployment figure.

All three sets of data give a falsely cheerful picture of the economy, not because of “any concerted or cynical schemes,” but because policymakers of both parties have found it expedient to distort the numbers.

By low-balling the inflation number, for example, the government can hold down interest rates and control the cost of pension and disability payments, which are indexed to inflation. A low inflation rate, in turn, makes the nation’s gross domestic output look more robust. That’s because when inflation is low, quarterly increases in the dollar value of the nation’s goods and services are attributed largely to greater output rather than higher prices. And by undercounting the unemployed, the government can downplay the severity of economic downturns. The inflation statistics most dramatically show the disconnect between the official numbers and reality, said Dean Calbreath in The San Diego Union-Tribune. Government spokesmen like to cite the so-called core inflation rate, which smoothes out fluctuations in food and energy costs. But “many economists say the core rate does not show how inflation is affecting the typical consumer.”

For instance, the official statistics give “nearly as much weight to high-ticket items such as cars and electronics,” which people buy infrequently, as they give to everyday purchases such as food and gasoline. The core rate also doesn’t capture how the prices of food and energy, among other items, have risen far more rapidly than incomes.

As a result, people are spending an ever-greater share of their wages to buy an ever-smaller amount of food or gasoline. Another oddity of the inflation calculation is what’s called the “hedonic adjustment,” said Bill Fleckenstein in MSN’s Moneycentral.com. In effect, the government says that some product improvements, such as cameras in mobile phones, amount to price reductions. In other words, a $300 phone with a camera is “cheaper” than a $300 phone without one. Such trumped-up price deflators make the government’s inflation calculation a “cheat.” The inflation numbers are dubious, but it’s the unemployment figures that deserve “the Pulitzer Prize for Fiction,” said Alan Abelson in Barron’s. The government reported this month that payrolls shrank by only 20,000 jobs in April, and that the unemployment rate dropped to 5 percent from 5.1 percent.

But the job losses would have been closer to 287,000, if not for the so-called birth/death adjustment that supposedly measures jobs added or lost by businesses that either started up or closed their doors in the past month. Using the adjustment, government economists surmised that the financial services industry added 8,000 jobs last month; construction added 45,000. Those are quite some feats, considering that banks and brokerage houses are laying off people left and right, and “construction is not exactly booming.” Say this for the government’s numbers, though: They might not be accurate, but they’re “carefully designed to leave you with a comfy feeling in these rather trying times.”