The Australian economy continues to perform miracles. Yesterday’s reported CPI result, which showed that prices rose by 0.6% over the past three months and 3.1% in the past year appear to be a beautiful set of numbers that will comfortably allow the Reserve Bank to keep interest rates on hold until after the election. Meanwhile, the national unemployment rate is 5.1% — virtually full employment, a stunning achievement especially compared with the United States and Continental Europe.

In a macro sense, the Australian economy is stuck in a Goldilocks moment — not too hot, not too cold. Of course, that is if you actually believe what the official CPI figures say and whether the result resembles any sort of accurate reflection of the actual cost of living.

For while the CPI figures indicate that cost of living rises have been minimal, in real terms, Australia quietly become one of the most expensive countries globally (this was evidenced by the cost of electricity increasing by 18% and hospital services by 6.7% in the past year).

Actual living costs in Melbourne, Sydney, Perth and Darwin are, in many areas higher, than the cost of living in international mega-cities such as New York or London (but lower than most Scandinavian and some European countries). This is due largely to the recent Australia dollar strength and slowing global economies. (Most would be surprised that the cost of a median dwelling in New York City is $US478,500, is only marginally higher than the median property prices in Melbourne and Sydney). Since 2008, Australia has dropped from top spot in Comsec’s iPod index to 14th.

But if you believe the CPI figures, prices are barely moving — half of the headline price rise in the June quarter was attributed to an increase in tobacco excises (with lower electronics and travel costs tempering the higher health and utility costs).

One of the main problems with how the ABS calculates the CPI figure is that it virtually ignores inflation in asset prices — especially rapidly rising housing costs. In the past year, RP Data calculated that the median house price increased by 12.1% nationally (in Melbourne, the median increased by 18.2%). However, according to the ABS,  “over the 12 months to June quarter 2010 the housing group rose 5.8% mainly due to rises in electricity (+18.2%), house purchase (+3.9%) and rents (+4.4%)”. That means the ABS pretty much ignored the major expense faced by many households — the increased cost of paying off their home (through higher finance payments).

Historically, this wouldn’t have been a major issue. Until the mid-1990s, housing prices generally rose at a rate slightly above the inflation rate — however, since then, they have increased by 190%, compared with a general price rise of 47%.

Unlike a rise in the price of electricity or milk, increasing house prices don’t affect everyone equally. For people who own their own home without any associated mortgage debt, the rise is largely irrelevant. However, for those who have recently purchased a property, the increased interest payments on the higher mortgage amount are substantial. To completely ignore the effect of higher asset costs in a CPI calculation grossly understates the real level of price rises for a substantial section of the economy. (The CPI is flawed in many other ways as well, which allow the provision of a lower headline rate of inflation, such as adjusting for new technology or calculation discrepancies).

The miscalculations allow the Reserve Bank (and the US Fed, which also base decisions on similarly flawed CPI data) to continue to allow the price of money (in the form of interest rates) to be below its natural level and ensure that asset prices remain above their intrinsic values. All very convenient really.