This week’s Courier Herald column:
Inflation is back. It’s hard to believe that a political issue that dominated the first decade of my life – From Nixon’s Wage and Price Controls, Ford’s Whip Inflation Now campaign to the OPEC oil embargos that exacerbated price levels in the late seventies – has disappeared as a front-burner political issue for almost 40 years.
We now have two generations, including those that now set the tone for public opinion, that have never experienced more than nominal annual price increases. There’s a lot going on with respect to the economy right now, and breaking down exact causes and effects are difficult for professional economists, much less casual observers.
The focus this week is on Wednesday’s Consumer Price Index, or CPI report. It showed year-over-year inflation rose 4.2% from April a year ago. The official target for the Federal Reserve that attempts to manage inflation by setting interest rates and controlling the money supply is 2%.
It’s important to note that despite “easy” monetary policy, the Fed has failed to achieve sustained inflation at or near their 2% target since the Great Recession. They’ve stated publicly for the last year that they intend to “overshoot” the target for a while, in order to return the economy to sustained growth and full employment.
The trillion-dollar word of the day is “transitory”. This is the chosen descriptor used by members of the Federal Reserve when trying to encourage us not to panic about seemingly dramatic price increases.
Essentially, the use of the word transitory is to say that they do not believe inflation as it currently exists will be sustained but is temporary. Economists technically do not believe a one-time increase in prices equates to inflation, but would instead describe that as a “shock” to the system. True inflation – and the negative consequences it brings as it increases – requires sustained price movements upward.
The biggest increase in prices since last year was in used cars, up 10% in a year, for an asset class that usually depreciates. Last year at this time, rental car companies were flooding the market with cars they couldn’t rent during a nationwide shut down.
Now, these same companies are having to buy used cars at auctions as new cars are generally unavailable. Auto manufacturers are unable to fill dealer orders for vehicles due to surges in demand combined with supply chain issues with a shortage of semiconductor chips. This example is quite relevant to the “transitory” nature of some components of inflation, as it’s not reasonable to expect the prices of used cars to continue to increase in perpetuity.
Similarly, prices for airline tickets, hotel rooms, rental cars, and other travel related services are much higher than they were a year ago as there is pent up demand to get out of our houses. Supply of airline seats, cars, and employees to operate hotels remains constrained, leaving the surge in demand to bid up prices for what is available.
Gas prices are showing some transitory and some potentially permanent changes. We’re experiencing a supply shock due to the shutdown of one of the pipelines that supplies much of the state with refined gasoline. Gas prices have jumped about forty cents a gallon in my area in four days – where you can find it.
Longer term, however, there’s been a change in what we’re producing. This started early last year when Saudi Arabia and Russia colluded to temporarily flood the market in order to drive high cost and highly leveraged U.S. oil producers out of the market. For one month, oil futures actually closed with a negative value, as there was nowhere to store the excess.
A year later, most worldwide producers have cut production. While it is true that the current administration is not exactly pro-drilling, the seeds of most recent price increases began with the production cuts a year ago, and have been exacerbated by the supply shock due to a major logistics failure.
The Fed’s big bet is that the “transitory” inflation will pass and sometime soon we’ll settle back into inflation at their targeted range. Those of us that remember the 1970’s or those who understand most consumers don’t care about economic statistics or their lengthy explanations know that public opinion can become fomented anger quicker than statistics can show improvement.