A Dynamic Measure of Inflation

Ricardo Reis

No 11746, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper shows that conventional measures of cost-of-living inflation, based on static models of consumption, suffer from two problems. The first is an intertemporal substitution bias, as these measures neglect the ability of consumers to borrow and lend in response to price changes. The second problem is the omission of intertemporal prices, which capture relevant relative prices for a consumer who lives for many periods. The paper proposes a dynamic price index (DPI) that solves these problems. Theoretically, it shows that the DPI is forward-looking, responds by more to persistent shocks, includes assets prices, and distinguishes between durable and non-durable goods' prices. A constructed DPI for the United States from 1970 to 2008 differs markedly from the CPI, it is close to serially uncorrelated, it is mostly driven by the prices of houses and bonds, and is twice as high as the CPI in 2008.

JEL-codes: C43 D91 E31 J26 (search for similar items in EconPapers)
Date: 2005-11
New Economics Papers: this item is included in nep-mac
Note: AG ME PE
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Citations: View citations in EconPapers (6)

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