HardAssetsInvestor

Written by Brad Zigler  |

February 02, 2010

Defining ‘Monetary Inflation’

Details

Inflation's a hot topic ‘round here. Has been for quite a while. There has been, especially, a lot of heat and light generated about the Consumer Price Index. Many people distrust the government's numbers.

Now, I have my own issues with CPI. But I see it for what it is—a lagging indicator of domestic retail price changes. And lag it does. We get CPI figures in the middle of the month—the month following the data cutoff—so they're at least six weeks old. In the course of a year, we only get 12 data points. Without resorting to a series of rolling averages, that's not a lot of numbers for the statistical grist mill. And if you believe current data points should be weighted more heavily than past stats, you've got yourself a real problem making trading or investing decisions in the here and now.

With this in mind, I devised a real-time metric—one that is updated daily and thus provides about 250 data points a year. Obviously, I can't conduct a survey of retailers each and every day to price a market basket of goods and services, so instead of using domestic retail prices, I used the value of the U.S. dollar against other monetary standards in international trade—gold and the world's second reserve currency, the euro. Gold and foreign exchange trading is pretty much a 24/7 business, so you can peg the buck's worth at any time of day, on any day of the week.

To set this inflation yardstick apart from the domestic price inflation measured by CPI, I dubbed my metric "monetary inflation." You'll see its current rate—2 percent—up in the subhead of this and every Desktop column. As the parenthetical phrase states, the rate reflects the loss in dollar purchasing power versus gold and the euro from year-ago levels, 365 calendar days back.

So why am I bringing this up now? Well, an exasperated reader just complained, "Where does Brad get his inflation figures from? His so-called inflation rate has varied from 2 to 8 percent just in the past few months." (For the record, the high rate since July 2009 has been 5 percent; the low, -4.4 percent).

So, now you know where the numbers come from (more background on the indicator can be found in a March 2009 column: "A New Low - And An Explanation - For Monetary Inflation").

The daily indicator can, indeed, seem volatile, but over time it can be charted to develop a better understanding of trends in the value of the U.S. currency. While the 12-month rate is only 2 percent, over the long term—at least since the introduction of the euro—the average annual rate is 4.1 percent. This statistic is updated in each Friday's Desktop column.

Monetary Inflation Index

The statistical value of the monetary inflation index was exploited for an inflation prediction last summer in our feature "Laying Odds On Inflation."

This ought to set the record straight about the origin of the inflation numbers and their utility.