NBER Working Paper: CPI Bias from Supercenters

Jerry Hausman and Ephraim Leibtag have a really neat NBER working paper, CPI Bias in Supercenters: Does the BLS know that Wal-Mart Exists? ($). Of course, the question is facetious and deceptive. Their inquiry is really about whether the sample of prices in the CPI are actually representative.

The abstract indicates that they aren't:

Hausman (2003) discusses four sources of bias in the present calculation of the CPI. A pure price index based approach of surveying prices as done by the BLS cannot succeed in solving the problems of bias. We discuss economic and econometric approaches to measuring the first order bias effects from outlet substitution bias. We demonstrate the use of scanner data that permits implementation of techniques that allow the problem to be solved. In contrast, the current BLS procedure does not treat correctly outlet substitution bias and acts as if Wal-Mart does not exist. Yet, Wal-Mart offers identical food items at an average price about 15%-25% lower than traditional supermarkets. The BLS "links out" Wal-Mart's lower prices. We find that a more appropriate approach to the analysis is to let the choice to shop at Wal-Mart be considered as a new good' to consumers when Wal-Mart enters a geographic market. This approach leads to a continuously updated expenditure weighted average price calculation. We find a significant difference between our approach and the BLS approach. Our estimates are that the BLS CPI-U food at home inflation is too high by about 0.32 to 0.42 percentage points, which leads to an upward bias in the estimated inflation rate of about 15% per year. (Emphasis added).
Some detail on this process from the meat of the paper, which I have yet to read in full:

Various studies have demonstrated that food items at Wal-Mart are 8%-27% lower priced that at the large supermarket chains, even after discounts for loyalty card and other special are taken into account. After entry by Wal-Mart conventional supermarkets typically decrease their prices (or do not increase them
as much as in non-Wal-Mart markets) because of the increased competition.
Remarkably, the large expansion and continuing expansion of Wal-Mart and other supercenter food outlets has almost no effect on the BLS calculation of the CPI for food.

The BLS employs a �linking procedure� that assumes �quality-adjusted� prices at Wal-Mart are exactly equal to prices at conventional supermarkets. Thus, when a Wal-Mart store replaces, say a Kroger, in the BLS sample of stores from which it collects prices, it links the lower Wal-Mart price to the higher Kroger price to remove any difference. Even though packaged food items are physically identical at the two stores, the BLS procedure does not recognize any price difference between the stores. This procedure is not based on any empirical study. Rather, it is based on mere assumption. The assumption is
completely inconsistent with actual real world market outcomes where Wal-Mart has expanded very quickly in markets that it entered. Thus, Wal-Mart and other supercenters are nowhere in the food CPI so that we find that the BLS does not know that Wal-Mart �exists� in terms of the estimation of a CPI. We also believe that observed consumer behavior cannot be explained by the BLS assumption of a compensating �quality differential.�

This is really neat, but have studies really found that WalMart prices are 8%-27% lower? Yes, they are. We reprint footnote 5:
A recent December 2003 study by UBS Investment Research found a price gap of 17.3% to 26.2%, �Price Gap
Tightens, Competition Looks Hot Hot Hot.� The previous year UBS found a price gap of 20.8% to 39.1%. For example for a specified identical market basket UBS finds Wal-Mart supercenters to have an average price 19.1% less expensive in Tampa and 22.8% less expensive in Las Vegas. In 2002, Salomon Smith Barney estimated the price gap to be between 5% and 25%. See L. Cartwright, �Empty Baskets, September 12, 2002.
Hausman and Leiptag have a separate paper analyzing consumer benefits from entry by supercenters, with identical sources...


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This page contains a single entry by Kevin published on December 20, 2004 5:02 PM.

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