Jakob Madsen, University of Western Australia

"A Leap in the Dark: The Rental Equivalence Fallacy, Monetary Policy, and The Mismeasurement of Inflation"

Abstract

Despite the five-fold increase in real house prices since 1940, the real rent deflator in CPI has remained flat in the OECD countries; thus, resulting in a significant underestimation of inflation because the imputed rent equivalence method fails to allow for capital gains on houses and the reduced effective costs of rented property. By extending the consumer-based user cost approach to allow for technological change and investment adjustment costs, this research shows 1) that housing consumption in CPI is a fictional number and divorced from economic fundamentals; and 2) that theory-consistent housing consumption of owner-occupiers as well as tenants is proportional to house prices or construction costs. Constructing data for 18 OECD countries over the period 1800-2024, it is shown that inflation has been underestimated by approximately two-percentage points since WWII. Furthermore, it is shown that the downward bias in SNA-based inflation is pro-cyclical, suggesting that monetary policies have been pro-cyclical – the reverse of intentions.

For more information about Jakob Madsen and his interesting work - link to his website.

Contact person: Pablo Selaya