Consumer Substitution, Cost of Living Measurement and Real Exchange Rate in Argentina - First Part: 1960-1995 (Long Version, in Spanish) (Sustitucion en el Consumo, Medición del Costo de Vida y Tipo de Cambio Real en la Argentina - Primera Parte: 1960-1995)

Abstract

Ordinary consumer price indices customarily overstate increases in the cost of living because they do not allow for consumer substitution as relative prices change. This study looks for a more accurate measure of variations in the cost of living in Argentina over the years 1960 to 1995, taking account of consumer substitution, and for applying it to the question of estimating PPP exchange rates. A second paper will analyze the subsequent years 1996-2006. The main finding is that over 35 years (1960-95), the Consumer Price Index of Argentina overstated the rise in the true cost of living by 77% relative to the estimated cost of living index. Put in a different way, 44% of official inflation was avoided by consumers through substitution between goods, brands and outlets. The estimated cost of living index based in 1960 was in 1995 just 56% of the official index value. Concerning the value of Argentine currency, this study computes a purchasing-power-parity (PPP) exchange rate for 1960-95, based on a United Nations ECLA estimation of PPP exchange rates in various Latin American countries for the year 1960, updated with estimated cost of living indices for Argentina and the United States. For the US, studies by several authors are used to estimate a cost of living index controlling for the CPI's substitution bias, consistent with the index used for Argentina. The conclusions are that the exchange rate in Argentina was almost always above PPP during 1960-90, with the exception of 1979-81. It is also shown that the PPP rate was below the rate of one peso to the dollar when the latter was established by the so-called Convertibility Law in March 1991, but the PPP rate rapidly and smoothly converged to one peso per dollar during 1991-92, and remained in the close vicinity of the actual rate of exchange in subsequent years. A shorter English version is at http://ssrn.com/abstract=1437383.