Are The Posted Inflation Rates A Lie?

Inflation is a key factor when evaluating an economy. If inflation is at abnormally high levels, there are many negative side effects. These side effects may include the BoC (Bank of Canada) raising interest rates, which as we know, decreases the purchasing power.

Inflation can be defined as a ‘sustained increase in the general level of prices for goods and services in a county and is measured as an annual percentage change’. For example, if inflation is at a rate of 3% and something costs $100 today, in one year’s time it will cost $103.

Various sources report inflation for 2017 around 1.6%. So assuming that inflation was about 2% annually since 2001, something that cost $100 in 2001 should, in theory, cost $140 now (click here to see a list of annual inflation rates).

Due to the critical economic nature of inflation, it is important for the public to question whether or not the inflation reports are providing an accurate representation. Is it possible that the government reports are sugar coated? If so, what would motivate such actions?

Charles Hugh Smith, a free-lance writer, developed his own measure of inflation. Rather than using long-standing methods like the Consumer Price index, Smith developed the Burrito Index.

Smith compared the price of purchasing a burrito at his favorite burrito place every year since 2001, thus its name ‘The Burrito Index’. The goal of this index was to prove that, real-world experience shows us the official inflation rate doesn’t reflect the actual cost increases of everything from burritos to healthcare.

Smith’s findings backed his suspicions. In 2001 he could buy a burrito for $2.50, in 2010 the same burrito cost $5. Currently, a burrito is at $7.50, triple the cost from 2001. These cost increases represent an annual inflation rate of roughly 6.7%.

What is more shocking, is the 4.9% discrepancy when comparing the official reported average annual inflation rate over that same time period. According to the average inflation rate is about 1.8% through the 2001-2017 period. Over 3.5 times less than what Smith found with his Burrito Index.

These high inflation rates are not limited to burritos or other food for that matter. Smith also focused his research on the inflating cost of financing a 4-year degree at various universities. From 2000-2016, the cost of acquiring a university degree typically increased by 137%. Note: The increase is also dependent on the institution.

Education Costs

Charles Hugh Smith references his alma mater (University of  Hawaii at Manoa) which, in 2004 cost $4,487 dollars annually. Tuition today is more than double at $10,872 per year.

So why is the reported inflation rate so low?

The answer is simple really. The posted inflation rate is an average rate of all goods in a “consumer basket”. This means that due to the relatively low inflation (possibly even deflation) of some products/services, the inflation rate stays relatively low. The costs of tech items, clothing, and commodities (oil, steel, gold, silver) are typically cheaper or only marginally more expensive than they used to be.

This becomes a problem, however, when we compare the high inflationary items, with the low inflationary items. Compared side by side, its easy to see that the items which inflate at the highest rate (housing, food, electricity, etc) are the things that we need to survive. So, one might argue that if these items were weighted higher due to necessity in the CPI, our inflation statistics would change drastically. It is also important to note that items such as TVs are purchased less frequently than food or other consumables.

Official inflation also assumes that consumers will actively substitute a cheaper alternative for whatever is soaring in price. So if a burrito is rising in price,  it assumes the consumer would opt to buy a taco instead. But this is extremely flawed because there is no cheap substitute for big-ticket items such as university, housing, or in the US – healthcare. It is the increasing costs of these items that are greatly decreasing the purchasing power of the middle class.

Furthermore, the way that inflation is measured over the decades has changed numerous times. If inflation was still measured the same way as it was in 1990, it would reflect a more accurate 6% inflation rate. If inflation was calculated as it was in 1980, it would be closer to 10%. Given these more realistic higher inflation rates, we are still theoretically in a recession…

Why does the government prefer higher inflation?

The main benefactor of inflation in the economy is the government. Government debt is often a fixed value, with interest owing each year. If the inflation rate surpasses the interest rate, this decreases the overall financial obligation of the government and helps diminish the value of government debt over time.

You can think of this discrepancy in real inflation rates and government interest rates debt as a hidden form of tax.

The takeaway?

Our money is losing its purchasing power much faster than the government would like us to believe. Year after year inflation is more realistically in the 6-7% range rather than 1.5-2.5% range.

Higher inflation is decreasing the real savings rate. If we put $1,000 away today and it generates 5%, we would be quite pleased. But if real inflation, based on the burrito index, is averaging 6.7% annually, we still lost -1.7% on our $1,000.

In conclusion, even though the reported inflation rate is low and remains stable, the necessary items purchased daily continue to rise much faster. Such increases continue to decrease purchasing power and disposable income. It is time to hold our government accountable, especially to raise CPP, OAS, and other social security payments to account for the actual rate of inflation, not just the reported 2%.

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Disclaimer: This Forbes Wealth Blog is for informational purposes only and does not constitute financial, legal, or tax advice of any kind. Please consult your legal, accounting, tax, investment, banking, and life insurance professionals to get precise advice relating to your particular situation before acting upon any strategy.



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