Everyday Price Index (EPI) Helps Illustrate Sagflation

An interesting gauge of inflation is the Everyday Price Index, or EPI. This measurement has recently received more interest lately because it shows an increase of 8% in prices last year, thus raising fears of hyper-inflation.

The EPI is calculated by the American Institute of Economic Research to address a concern that the CPI does not fairly reflect the price fluctuations impacting day-to-day consumers. The EPI tracks common household items purchased frequently, such as food, fuel and toothpaste.

To start, any measure of inflation has its flaws, so one must tread lightly when highlighting these measurements. For example, the EPI is biased towards more inelastic prices, or products less impacted by economic cycles, because it focuses more on non-discretionary items. Secondly, the EPI is weighted heavily to food and beverages (38-47% of the EPI), and motor fuel and transportation (14-20%). Thus the index is much more sensitive to changes in the relatively volatile commodity prices. It also minimizes the effect of many sectors experiencing deflationary forces, such as technology and manufacturing. All that said, it does offer some insight into interesting trends.

The EPI highlights a couple trends I have been arguing under my Sagflation theme of slow to negative real economic activity combined with more volatile prices caused by aggressive monetary policies. As the "real" income of the average American slows, and even begins to decline, I expect increasing deflationary pressure in the more middle-to-lower class discretionary segments of the economy as demand slows. This deflationary pressure may be offset for a time by increasingly aggressive monetary policy, but I believe more expansionary monetary policies likely raises food and oil price. Ultimately, our monetary-policy-fueled economy becomes a snake eating its tail, in my view.

The two points I take away from the EPI data are:

(1) Increasingly volatile prices due to aggressive monetary policies. Prices for everyday products have become progressively more volatile over the past couple decades as the activist monetary policies have attempted to offset the fundamental deflationary forces in the economy, in my view. Recently, the EPI swung from a 15% increase to a 10% decline between 2008 and 2010. This increased volatility makes budgeting more difficult for the average American. Assuming monetary policies continue their aggressive policies, I expect the EPI to become even more volatile.

                                                                                            Source: AIER

(2) Moderating real income growth for the average American. For this analysis I took the Personal Income (actual) data provided by the government and adjusted it to 2011 prices based on EPI data. This measure of real income should provide a good reflection of the trends impacting middle and lower class citizens, for which non-discretionary items like food and fuel account for a larger percentage of consumption.

This measure highlights, in my view, the increasing pressure on the average American as their real income growth slows, and even turns negative. It also reinforces many of the frustrations expressed by grass roots movements like the Tea Party and Occupy. So far the moderating real income growth has been partially offset by falling prices for things like consumer electronics and by competition within a overly-saturated retailing segment. Furthermore, the falling interest rates have enabled the average American take on more debt to fund on-going consumption.