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WASHINGTON >> Inflation looks like an unexpected – and undesirable – houseguest who just won’t leave.
For months, many economists had given the comforting message that a rise in consumer prices that had been absent in the US for a generation would not last long. If the economy shifted from virus-induced chaos to something closer to normal, it would prove “temporary,” in the comforting words of Federal Reserve Chairman Jerome Powell and White House officials.
But as any American who’s bought a carton of milk, a gallon of gasoline, or a used car can tell you, inflation has settled down. And economists are now sending out a more discouraging message: the higher prices are likely to last well into next year, if not beyond.
On Wednesday, the government announced that its consumer price index was up 6.2% year over year – the biggest 12-month jump since 1990.
“This is a major blow to the ephemeral narrative,” said Jason Furman, who served as chief economic advisor in the Obama administration. “Inflation is not slowing down. It keeps a glowing pace. “
And the sticker shock hits where families feel it most. At the breakfast table, for example: bacon prices have risen by 20% last year, egg prices by almost 12%. Gasoline is up 50%. Buying a washing machine or dryer will cost you 15% more than it did a year ago. Used cars? 26% more.
While wages have risen sharply for many workers, they are nowhere near enough to keep up with prices. Last month, the average hourly wage in the United States after inflation fell by as much as 1.2% compared to October 2020.
Wells Fargo economists grimly joke that the Department of Labor’s consumer price index – the consumer price index – should stand for “consumer pain index.” Unfortunately for consumers, particularly households with lower wages, this all coincides with their higher spending needs just before the Christmas season.
The price pressure is increasing the pressure on the Fed to turn away from years of monetary policy more quickly. And it poses a threat to President Joe Biden, the Democrats in Congress, and their ambitious spending plans.
WHAT CAUSES THE PRICE SPIKES?
Much of this is the downside of very good news. Shaken by COVID-19, the U.S. economy collapsed in the spring of 2020 as lockdowns went into effect, stores closed or hours of operation were cut, and consumers stayed home for health reasons. Employers have cut 22 million jobs. Economic output slumped in the April-June quarter of last year at a record-breaking annual rate of 31%.
Everyone prepared for more misery. Companies cut investments. The increase has been postponed. And a brutal recession followed.
But instead of sinking into a prolonged downturn, the economy experienced an unexpectedly strong rebound, fueled by massive government spending and a host of emergency measures by the Fed. By the spring, the introduction of vaccines had encouraged consumers to return to restaurants, bars and shops.
All of a sudden, companies had to make an effort to meet demand. They couldn’t hire fast enough to fill vacancies – a record $ 10.4 million in August – or buy enough supplies to fill customer orders. When business flourished again, the ports and freight yard could not handle the traffic. Global supply chains became jumbled.
The costs increased. And companies found that they could pass those higher costs on to consumers in the form of higher prices, many of whom had managed to cut a ton of savings during the pandemic.
“Much of the inflation we see is the inevitable result of overcoming the pandemic,” said Furman, now an economist at Harvard Kennedy School.
Furman suggested, however, that misguided politics also played a role. Policy makers were so intent on averting economic collapse that they “systematically underestimated inflation,” he said.
“You poured kerosene on the fire.”
A spate of government spending – including President Joe Biden’s $ 1.9 trillion coronavirus aid package with checks for $ 1,400 to most households in March – overstimulated the economy, Furman said.
“Inflation is much higher in the United States than it is in Europe,” he noted. “Europe is experiencing the same supply shocks as the United States, the same supply chain problems. But they haven’t provided nearly as much suggestion. “
In a statement on Wednesday, Biden admitted that “inflation is hurting Americans’ pockets, and reversing that trend is my top priority”. But he said his $ 1 trillion infrastructure package, including spending on roads, bridges and ports, would help alleviate supply bottlenecks.
HOW LONG IT WILL TAKE?
Consumer price inflation is likely to persist as long as businesses struggle to keep up with enormous consumer demand for goods and services. A resurgent job market – employers created 5.8 million jobs this year – means Americans can continue to buy everything from patio furniture to new cars. And the bottlenecks in the supply chain show no signs of being eliminated.
“The demand side of the US economy will continue to be impressive,” said Rick Rieder, Chief Investment Officer for Global Fixed Income at Blackrock, “and companies will still be able to afford the luxury of passing prices through.”
Megan Greene, chief economist at the Kroll Institute, suspected that inflation and the economy as a whole will return to normal at some point.
“I think it will be ‘temporary’,” she said of inflation. “But economists have to be very honest when it comes to defining ephemeral, and I think this could easily take another year.”
“We need a lot of humility to talk about how long this will take,” said Furman. “I think it will be with us for a while. The rate of inflation will fall from this year’s rapid pace, but it will still be very, very high compared to the historical norms to which we are used. “
ARE WE GOING TO SEE A RETURN OF ‘STAGFLATION’ IN THE ’70s?
The rise in consumer prices has raised the specter of a return to the “stagflation†of the 1970s. Back then, higher prices coincided with high unemployment, which conventional economists believed possible.
But the situation today is very different. Unemployment is relatively low and households are generally in good financial shape. The Conference Board, a corporate research group, found that consumer inflation expectations last month were the highest since July 2008. But consumers didn’t seem too concerned: the board’s confidence index rose due to optimism about the job market anyway.
“For now, at least, they think the benefits outweigh the negatives,” said Lynn Franco, senior director of economic indicators for the Conference Board.
After slowing from July to September in response to the highly contagious Delta variant, economic growth is believed to recover in the final quarter of 2021.
“Most economists expect growth to accelerate in the fourth quarter,” said Greene. “So that doesn’t mean we’re facing both a surge in growth and higher inflation. We’re just facing higher inflation. “
WHAT SHOULD POLITICIANS DO?
The pressure is on the Fed to keep inflation under control in order to control prices.
“You need to stop telling us that inflation is temporary, worry more about inflation and then act to worry,” Furman said. “We saw a little of it, but only a little.”
Powell has announced that as an emergency measure, the Fed will begin scaling back the monthly bond purchases it began last year to stimulate the economy. In September, Fed officials also forecast that they would raise the Fed policy rate from its all-time low near zero by the end of 2022 – much earlier than they had forecast a few months earlier.
But significantly higher inflation, if it persists, could force the Fed to accelerate this schedule; Investors expect at least two rate hikes from the Fed in the next year.
“We’ve been fighting non-existent inflation since the 1990s,” said Diane Swonk, chief economist at accounting and advisory firm Grant Thornton, “and now we’re talking about fighting real inflation.”
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