Commentary
Numbers recently released indicate that the Consumer Price Index (CPI), the most commonly used indicator of inflationary pressures, fell to a one-year annualized rate of 4.9 percent in the United States. The Biden administration heralded this as a major triumph as Twitter shills sang the praises of the Democrats’ economic stewardship. (In Canada, the government said the CPI fell to 4.4 percent.)
The U.S. figure is a significant drop from June 2022 when the CPI peaked at 9.1 percent. Critics pointed out that price increases of 4–5 percent are still unacceptably high and we are unlikely to return to the 1–2 percent range. A subgroup of inflation pessimists vocally assert that the CPI chronically underestimates general price increases and that this is a deliberate deception on the part of our political leaders.
Those who believe inflation is being manipulated use the argument that if the methodology used in the 1970s and 1980s was used over the last decade or two, inflation would be dramatically higher. They may have the direction right but the magnitude some are claiming is preposterous. I was around back then. The methodology was changed because the older measures overstated inflation. If we used the true old methods the cynics suggest, then real incomes would be dramatically lower than now. No sane analyst would suggest that Americans saw their incomes drop by 50 percent since the Reagan era.However, the CPI is only a statistical estimate and must make assumptions about the weight of a basket of goods and services. Apart from the obvious estimation errors, consumers substitute goods and services dependent on various factor. Also, products like televisions, computers, and others decline in price while increasing in value. Therefore the effect on inflation is hard to estimate.
Furthermore, we must separate the idea of overall price inflation, which is a general and persistent rise in prices with inflationary and deflationary shocks. We saw this with the supply chain bottleneck. This was not a true inflation issue but an inflationary and temporary shock. Part of the 9.1 percent peak in CPI was the supply chain, but some was also due to the increase in money supply.
Significantly, people are affected differently depending on where they spend their money. A poor family with an income of $30,000 is affected more by the increases in grocery costs than a single female diversity officer at an investment bank making $200,000 to tweet out support for the latest “cause du jour.” Even consumer preferences matter. Using live cattle and hog futures as a proxy for beef and pork, hamburgers and steak are up 25 percent over the last 12 months while bacon and pork chops are actually down 17 percent.
Many serious analysts who have largely been correct over the last couple of years, predicting both the spike and fall in annualized inflation, are now saying that the CPI will range from about 3–5 percent. Many of these analysts fall into the monetary economics camp and follow money supply figures. Money supply, uncharacteristically, has been declining after exploding due to governmental response to the pandemic. However, overall money supply growth from the beginning of the pandemic is still above trend. Therefore, the 3–5 percent range seems reasonable.
The question debated is whether the expected upcoming recession will be severe enough to send the CPI below that range. We are in that camp. However, inflation during the subsequent recovery will depend on how much money central bankers create to pull the economy out of the dive. Also, if commercial banks restrict credit enough, we will not have inflation but the economy will stagnate and even decline. Bank failures and the pressures on the commercial real estate markets are not exactly a hopeful harbinger.
Frankly, 4 percent inflation and 3 percent growth would be a great outcome for our present situation. I believe any inflation is bad but that period was superior to our recent few years, and far better than our future. Over the period just after the 2007–2008 financial crisis and the pandemic, economic growth has been half of the post-1982 period. We could be facing a Japanese situation. From 1995 to before the pandemic, the Japanese CPI averaged 0.2 percent annualized, but the economy per capita effectively had zero growth. Bluntly, the Japanese have more self-discipline and social cohesion than North Americans and Western Europeans. This might get ugly.
Ignoring those who believe that governments are purposely lying about inflation, the public does seem to believe inflation is worse than those in political power are stating. I think the explanation for this is simple and the guy on the street is correct. If one looks at the prices of food, shelter, and services, they have gone up by a significant amount more than the overall official CPI of 4.9 percent, to between about 7 percent and 8 percent. This is what real individuals and families spend money on and are concerned about. Who cares if electric vehicle prices are down if hamburger prices are up 25 percent and you’re living paycheck to paycheck?
Also, wage increases are falling behind the actual cost of living for most households, especially those that are not rich. This makes the pain of inflation worse. This is regrettable and most do not deserve to become poorer but, for decades, we elected the people who put us in this position. The free lunch they promised us is giving us food poisoning. We will not get out of this mess trusting the same elite that created it.
