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Hutchins Roundup: Overstated inflation, impact of hospital closures, and more

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Studies in this week’s Hutchins Roundup find that inflation is overstated because of measurement error, closing hospitals increases mortality in rural areas, and more.

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Inflation is overstated because of measurement error

Philippe Aghion of Collège de France and coauthors find that “creative destruction” – the systematic replacement of inferior products and services through innovation—leads official inflation statistics to overstate true inflation. The Bureau of Labor Statistics (BLS) measures inflation by tracking items over time. If an item is replaced by a better item, BLS imputes the price for the no-longer-sold item using the average price growth of surviving products. The authors argue that this imputation overstates inflation, because price growth of the displaced items is likely to be below average. They find that this source of measurement errors leads real GDP growth to be understated by 0.5 percentage point per year, five times larger than previous findings, with much of the understatement arising from hotels and restaurants rather than manufacturing. Mismeasurement did not accelerate much after 2005, the authors say, and therefore does not explain the sharp slowdown in growth over the past decade.

Authors

Jeffrey Cheng

Research Analyst - Hutchins Center on Fiscal & Monetary Policy, The Brookings Institution

Kadija Yilla

Senior Research Assistant - Hutchins Center on Fiscal & Monetary Policy, The Brookings Institution

Closing hospitals increases mortality in rural areas

About 15% of hospitals have closed since 1990, and rates of hospital closure—particularly in rural areas—have increased over the last decade. Kritee Gural and Anirban Basu of the University of Washington use data from California from 1995 to 2011 to examine the impact of hospital closures on patient outcomes for four time-sensitive conditions: sepsis, stroke, heart attack, and asthma/chronic obstructive pulmonary disease. They find that closure of rural hospitals increases inpatient mortality for these conditions by 5.9%, on average, while closure of urban hospitals has no impact. Policymakers should ensure that patients, particularly vulnerable ones, have access to emergency transportation following a hospital closure, the authors say.

Consumer buying habits for durable goods limits effectiveness of monetary policy

One channel of monetary policy is to prompt consumers to purchase big-ticket durable goods today rather than in the future. Alisdair McKay of Federal Reserve Bank of Minneapolis and Johannes F. Wieland of University of California, San Diego, highlight three ways that properly accounting for the consumption of durable goods suggests that monetary policy is less potent than in the standard New Keynesian model.  First, encouraging households to purchase today means there are fewer households who will make purchases in the future. Second, the opportunity cost of accelerating consumption is today’s short-term real interest rate today, suggesting that central bank’s forward guidance about future interest rates is much less powerful than cutting rates today. Finally, monetary policy is less effective in recessions because demand for durables is lower and thus there are fewer households that will be induced to accelerate it because of low interest rates.  All this implies that central bank decisions today affect the amount of monetary ammunition available in the future. Given concern about short-term interest rates hitting zero, a central bank concerned about weaker demand in the future might want to “keep its powder dry” to preserve “policy space” in the future, they argue.

Chart of the week: 10-year government bond yields continue to fall internationally

10-year government bond yields in 2019 so far of the following countries: U.S., Canada, U.K., Spain, Japan, France, and Germany

Source: Wall Street Journal

Quote of the week:

“.. The international monetary financial system is structurally lowering the global equilibrium interest rate, r*, by: (1) feeding a global savings glut, as EMEs [emerging market economies] defensively accumulate reserves of safe US dollar assets against the backdrop of an inadequate and fragmented global financial safety net; (2) reducing the scale of sustainable cross border flows, and as a result lowering the rate of global potential growth; and (3) fattening of the left-hand tail and increasing the downside skew of likely economic outcomes. In an increasingly integrated world, global r* exerts a greater influence on domestic r*. As the global equilibrium rate falls, it becomes more difficult for domestic monetary policy makers everywhere to provide the stimulus necessary to achieve their objectives…” says Mark Carney, Governor of the Bank of England

“The growing risk of a global liquidity trap puts a high premium on getting more than just monetary policy right. Limited space for monetary policy to respond to adverse shocks means more of the burden for supporting jobs and activity will fall to fiscal policy. Though some may be tempted to resort to protectionism, such policies would merely serve to make the problem worse. Those at the core of the IMFS [international monetary and fiscal systems] need to incorporate spillovers and spill backs, as the Fed has been doing. More broadly, central banks need to develop a better shared understanding of the scale of global risks and a recognition that concerted, cooperative action may sometimes be necessary. That doesn’t mean that monetary policy makers in advanced economies must internalize fully spillovers from their actions on emerging market economies, given their mandates are to achieve domestic objectives. They must, however, increasingly take account of effects that spill back on their economy as well as shifts in the global equilibrium interest rate that their actions can spur.”

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