Are We Measuring Inflation Incorrectly? Revisiting Alchian and Klein
Abstract
Five decades ago, Armen Alchian and Benjamin Klein argued that standard price indices used by researchers and policymakers were theoretically inadequate because they only measure the prices of current consumption services or current output. A theoretically correct price index would also include the current prices of future consumption. Empirically, those prices do not exist. Nonetheless, asset prices could be used to proxy for the current prices of future consumption. They proposed a test to determine whether this theoretical concern had empirical relevance and found evidence to support their claim that conventional price indices are missing information conveyed by asset prices. In this paper, we update their empirical evidence using modern econometric techniques and properly measured monetary aggregates. We find support for their argument, suggesting that conventional price indices might bias short-run monetary policy decisions.
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