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The Inflation Beat
Q & A
Inflation Forecasting Methodologies
The true wealth of a nation is its productive capacity of its people.  

Lets say a country has a population of 100,000,000 people.  65% of this population is engaged in the workforce and is gainfully employed.  The average employed person works 35 hours per week.  So 65,000,000 people working 35 hours per week means that in this country, every week, about 2.275 billion hours are worked every week.  

Goods and services are created and provided for consumption or trade.  How much goods and services can be provided with 2.275 billion hours of work? Well, depending upon how productive this country is with it's use of these 3 things: Labor (time), Energy (BTU) and Capital (money or credit), will determine how productive it is.

The very word Economy has two meanings: 

1.  the wealth and resources of a country or region, especially in terms of the production and consumption of goods and services.

2.  careful management of available resources.

The "available resources" are the labor time, energy use and capital required.

To do a task or produce something, you'll need INPUT COSTS.  The way to improve productivity is to reduce the total amount of inputs costs as best you can.  It's part science and part art as you divy up saving time, energy and capital. 

The goal should not be to produce something as cheaply as possible, then we might as well wear sneakers make of styrofome.  They might last just a few steps before breaking.

The goal is to produce something that has the lowest cost per use and have a good enough quality to warrent its use.  

There are countless ways both to do this and countless ways this has been done which is why we have the potential level of standard of living we have today Vs. that of the past. 

Productivity is measured by output per hour.  Here is a chart showing the US output per hour:

This chart is an index where in 2012, it was at 100.  So going to the very beginning back in the 1st quarter of 1947, the index was 23.23.  As of the 2nd quarter of 2019, it's up to 107.54.

Infrastruture plays a major role in the productivity of the people in the given economy.  

New York State became the Empire State because of the Erie Canal.  The tremendous improvement in the reduction of cost to move goods via the Erie Canal, which was completed in 1825, allowed for the economy of New York State to flourish during the 1800's and utimitely making New York City the financial capital of the world.  

What used to take 30 days time and $100 in cost to move 1 ton of goods from Buffalo to NY City via horse and carriage, took just 7 days and $5 to move the same ton of goods over the same length using a flatboat over the Erie Canal.  (See Peter Bernstein's "The Wedding Of The Waters - The Erie Canal And The Making Of A Great Nation)

That would be a good example of something that greatly lowers input costs and improves productivity.

There are countless ways of improving productivity by means of reducing input costs. 

To grow an economy, you need to grow the aggregate of two factors: Hours worked and the output per hour.

Let's take the same chart as above and multiply that by the total amount of hours worked in the US economy and see the year over year percent change compared to the real gross domestic product rate of change..
To a very large extent, the economy, measured by the real gross domestic product, grows at about the same rate of hours worked multiplied by the output per hour.

How do you improve the output per hour?   Investment in new technology and new equipement, higher skilled labor, better methods and practices, improved infrastructure are all ways that can honestly improve productivity and reduce input costs.

There are other factors that also reduce input cost.

Stronger currency makes foreign goods and services cheaper on one's home country.  So having a currency that is stronger today than it was a year ago bodes well for reducing input costs Vs. 1 year ago.

Importing goods and services at lower prices.  When China joined the world trade organization in 2001, there was an avalanche of production of goods once produced in the US that went off to China.  From clothes to auto parts, goods that were once produced in the US or imported from higher cost countries like Japan or Germany, would move to China production.   In 2001, labor costs in China were $50 a month.  The workers would live in dormatories, work 6 days a week, 12 hours a day.  So what would cost $1 to make in the US would cost 15 cents to make in China.  I know this because I worked in manufacturing form 1999 - 2004 and the company I worked for ended up going bankrupt and closing in 2007.  

To this day, importing lower priced goods plays a major role in the US economy and has played a tremendous role in the improvement in productivity over the last 40 years.  

Lastly, commodity prices.  Commodity price are volitile and are prone to large swings in price depending upon main, supply and demand.  The strength of the currency can also play a role in the price of the commodity.

Anyone who drives a car or heats ones home knows full well the extent of the input costs of the energy that is required to do so as well as the volatility of those imput costs.

These 3 factors just mentioned also play a role in the rate of inflation and make up part of the inflation forecasting array.

That's a lot, but that's all I'll say about produtivity for now.  It's ultimitely the careful measure of input costs that go into making a good or providing a service for or to an end customer.

The other pages will go into more detail abour currency, imports and commodities.

Bottom Line

Reducing input costs is a DEFLATIONARY FORCE while increaseing input costs is an INFLATIONARY FORCE.

Here is a chart again showing total credit growth per capita compared to inflation:
What I'm going to do next is ADD the rate of productivity to the rate of inflation to get it closer to the rate of credit growth.  
This idea is that Credit Growth = Inflation + Productivity.  If credit growth was 6%, productivity was 4%, then inflation would be 2%.  At the same time, if productivity was low, say 1%, then we'd see 5% inflation.  

Productivity growth is a deflationary force.

This is not a science and there is plenty of room for error at you can see from the chart above, but this is a great place to start to be able to gage a lot about the economy and inflation as well as investments.
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