Thursday, May 16, 2013

BLS Explains Owner Equivalent Rent Portion Of CPI

Posted by Milton Recht:

From Bureau of Labor Statistics, Beyond The Numbers, May 2013, Vol. 2, No. 14, "Owners’ equivalent rent and the Consumer Price Index: 30 years and counting" by Frank Ptacek and Darren A. Rippy:
The objective of the Consumer Price Index (CPI) is to measure the change in expenditures required to maintain a given standard of living. For expenditures on houses, this leads to a measurement objective that focuses on the shelter services provided by a house over a period of time. A house is a capital asset that provides a flow of services over a substantial period of time, not a one-time consumption item.

The Bureau of Labor Statistics (BLS) explored two major approaches to determine how to estimate the cost of shelter services for owner-occupied dwellings. The first approach attempts to estimate the flow of shelter services for an owned dwelling from items related to living in it. This approach is called “user cost” and includes items such as real estate taxes, insurance, and an interest estimate based on the market value of the house. The second approach attempts to estimate the flow of services for an owner dwelling based on market rents for rented dwellings. This research led to a method referred to as “rental equivalence.” This method measures the rate of change in the amount an owner would need to pay in order to rent on the open market. It is based on actual market rents collected from a sample of renter-occupied housing units that are identified to be representative of owner-occupied housing.

On October 27, 1981, Commissioner Janet Norwood announced that BLS would convert the CPI for All Urban Consumers (CPI-U) to a rental equivalence measure for homeowner costs, effective with data for January 1983.
At this point, the concept of economic rents and pure rents comes into play. If the landlord provides utilities, the cost of those utilities is included in the collected rents. The collected rents, adjusted for quality change, are called economic rents. Because owners pay for their own utilities, the housing system estimates the value of the landlord-provided utilities (cost of utilities). The pure rents are the collected rents, less the cost of utilities, adjusted for quality changes. The change in the pure rents from one period to the next for the matched rental units were used to estimate rent change for updating the implicit rent for owned units.
The complete BLS article is also available as a PDF.

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