Marketwatch research; graphic by Ryan Jeffrey Smith for MSN Money

Consumer prices are rising at less than 2% a year right now, the government says. The Federal Reserve says inflation is under control, at least for now.

But who are you going to believe? The government or your own eyes?

Based on their personal experiences, lots of people think the government's consumer price index vastly understates the true inflation rate. They know in their gut that inflation is really much higher, maybe even 10% per year.

Recently, for instance, MarketWatch columnist Dennis Miller asked his readers what they thought the true inflation rate was. About 84% of the 3,000 respondents said that inflation is running higher than 6% a year. The average response was 8.1%.

These people are deluded.

Why the CPI deniers are wrong

There's a whole cottage industry of CPI deniers. John Williams of Shadow Government Statistics, the dean of the deniers, says the real inflation rate over the past year would be 9.6% if the Bureau of Labor Statistics didn't manipulate the inflation data.

The BLS says inflation has averaged about 3% per year over the past 30 years, but Williams says it's averaged about 6%. Williams thinks prices in the real world are about twice as high as the BLS thinks they are, or to put it another way, our real standard of living is only half what the government says it is.

In particular, Williams and his ilk say that the BLS can't be trusted because its statistical methods assume that consumers get more for their money when products are improved, or when they buy cheaper versions of products. They say the BLS doesn't pass the smell test.

They maintain the only true measurement of inflation uses a fixed market basket of goods and services, with exactly the same items today as 30 years ago. Never mind that many of the things we buy today weren't on the shelves back then.

The BLS -- backed by most statisticians and economists — argues that its methods are sound and provide an accurate measurement of inflation. And the BLS argues that these methods have very little impact on the CPI as a whole, in the range of a few tenths of a percentage per year

But let's assume for a moment that the deniers are right that we should compare, as much as possible, prices of the same goods and services over time. So why not look at some actual prices and see how much they've risen over time?

If prices were rising 6% at a year, then it would mean most things would cost almost six times as much as they did 30 years ago. Under this scenario, milk would cost $13 a gallon, a family car would cost $38,000, a first-class postage stamp would cost $1.15 and a gallon of gas would cost $7.

Talk about failing the smell test! Maybe some folk pay those prices, but I don't.

I tried to figure out how much prices have actually gone up. I compared the prices paid today with the prices paid in 1983 for 20 common goods and services. I ignored changes in quality, such as much more powerful computers, safer and more efficient cars, or much worse service from airlines.

I don't pretend that my small sample is as accurate as the studies of millions of prices of thousands of products tracked by the BLS over the past 30 years, or PriceStats inflation gauge that tracks prices of thousands of goods and services sold online. It's not scientific or statistically sound, but it has the advantage of simplicity and transparency. There's no way to spin the results.

Annualized rates are much closer to 3%

Some people won't like what I found. For most of the goods and services in my sample, annualized inflation rates are much closer to 3% than to 6%.

The results are what you'd expect if you pay attention when you pay your bills. Prices of some goods and services -- cigarettes, tuition and health care, for example -- have risen at rapid clip. But prices of other goods have fallen (such as computers) or have been essentially unchanged for years (such as clothing or airfares).

Most of the essentials are rising at a 2% to 4% pace, just like the BLS has been saying.

So why do so many people insist that prices are actually growing twice as fast as they really are?

For some, it's a political stance. The government is bad, therefore everything it does or says must be wrong.

For others, it's more a matter of how our brains are wired. We notice when prices go up, but not when they fall. We notice prices that we pay every day but not prices that we pay only infrequently.

And most people don't understand the arithmetic of compounding. It might surprise you to know that prices will double in 30 years with an inflation rate of just 2.3%. It doesn't take 6%.

But, in my view, the real reason so many people think inflation is out of control is that their income isn't keeping up with it. For much of the first 75 years of the 20th century, wages and salaries rose much faster than prices did. It took fewer and fewer hours of work to buy the staples and the luxuries of life. Our living standards improved visibly.

But over the past 30 years or so, average wages have been rising at about the same pace as prices, about 3% a year. And that's the average. Some people's earnings have grown slower than average, which means they have to work more hours to buy the same things that they bought 30 years ago.

No wonder they think prices are too high. Their standard of living has fallen.

But they are wrong. It's not that prices are too high; it's that wages are too low.

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