Inflation is here. By a lot. Overall, prices climbed 6. The gasoline index alone rose 6. Of course, those items are key to the basic financial life of normal Americans, thereby stretching their bottom line even thinner. When you strip out volatile food and energy prices—so-called core CPI inflation—the picture was somewhat brighter. Prices rose by just 0. Certain items contributed mightily to these historic gains, as any driver can attest. New vehicles jumped 1.
Over the past year, food is 5. Shelter costs have risen by 3. Workers are especially feeling the sting. Saying that higher prices will moderate once the economy gets back to normal is easier than actually living through the increase, especially as October wages only gained 4.
As high inflation first became an issue in the Spring of , the Fed laid out a few reasons to explain what was going on, which included base effects, supply-chain issues and a tricky labor market. Base effects are perhaps the most intuitive reason for high price growth.
That is, prices dropped considerably throughout as state governments imposed lockdowns in an attempt to slow the spread of Covid, and so any year-over-year comparison was bound to look outlandish when people began spending more as life returned to normal. Once the Covid pandemic began, demand for travel plummeted, which led to a drop in prices.
But once a year passes, these year-over-year comparisons turn: The June CPI report, for instance, compared vaccine-era airline prices to what they were after Covid struck. This was one of the key points that the Fed had been pounding away at: with vaccines widely available, more people were bound to fly.
Yes, airline prices are much higher than a year ago, but they remain cheaper than where they were pre-pandemic. Yet overall inflation is soaring, so something else must be going on, too. Supply chain issues continue to mess with prices. Take used cars and trucks: While prices declined as the economy went into the recession , it is not the case that used cars and trucks became cheaper than they were in February The reasons for that hike are tied to the pandemic, to be sure.
Supply is limited thanks to new car production being stymied by an ongoing chip shortage , people hanging onto their leases for longer and rental car companies—a major source of used cars—having fewer to unload after limiting their inventory when the pandemic struck.
Inflation can be a concern because it makes money saved today less valuable tomorrow. Inflation erodes a consumer's purchasing power and can even interfere with the ability to retire. In this article, we'll examine the fundamental factors behind inflation, different types of inflation, and who benefits from it. There are various factors that can drive prices or inflation in an economy. Typically, inflation results from an increase in production costs or an increase in demand for products and services.
Cost-push inflation occurs when prices increase due to increases in production costs, such as raw materials and wages.
The demand for goods is unchanged while the supply of goods declines due to the higher costs of production. As a result, the added costs of production are passed onto consumers in the form of higher prices for the finished goods. One of the signs of possible cost-push inflation can be seen in rising commodity prices such as oil and metals since they're major production inputs.
For example, if the price of copper rises, companies that use copper to make their products might increase the prices of their goods. If the demand for the product is independent of the demand for copper, the business will pass on the higher costs of raw materials to consumers.
The result is higher prices for consumers without any change in demand for the products consumed. Wages also affect the cost of production and are typically the single biggest expense for businesses.
When the economy is performing well, and the unemployment rate is low, shortages in labor or workers can occur. Companies, in turn, increase wages to attract qualified candidates, causing production costs to rise for the company. If the company raises prices due to the rise in employee wages, cost-plus inflation occurs.
Natural disasters can also drive prices higher. For example, if a hurricane destroys a crop such as corn, prices can rise across the economy since corn is used in many products. Demand-pull inflation can be caused by strong consumer demand for a product or service. When there's a surge in demand for a wide breadth of goods across an economy, their prices tend to increase. While this is not often a concern for short-term imbalances of supply and demand, sustained demand can reverberate in the economy and raise costs for other goods; the result is demand-pull inflation.
Consumer confidence tends to be high when unemployment is low, and wages are rising—leading to more spending. Economic expansion has a direct impact on the level of consumer spending in an economy, which can lead to a high demand for products and services. As the demand for a particular good or service increases, the available supply decreases.
When fewer items are available, consumers are willing to pay more to obtain the item—as outlined in the economic principle of supply and demand. The result is higher prices due to demand-pull inflation. Companies also play a role in inflation, especially if they manufacture popular products. A company can raise prices simply because consumers are willing to pay the increased amount.
Corporations also raise prices freely when the item for sale is something consumers need for everyday existence, such as oil and gas. However, it's the demand from consumers that provides the corporations with the leverage to raise prices.
The housing market, for example, has seen its ups and downs over the years. If homes are in demand because the economy is experiencing an expansion, home prices will rise. The demand also impacts ancillary products and services that support the housing industry.
Construction products such as lumber and steel, as well as the nails and rivets used in homes, might all see increases in demand resulting from higher demand for homes. Expansionary fiscal policy by governments can increase the amount of discretionary income for both businesses and consumers. If a government cuts taxes, businesses may spend it on capital improvements, employee compensation, or new hiring. Consumers may purchase more goods as well.
The government could also stimulate the economy by increasing spending on infrastructure projects. The result could be an increase in demand for goods and services, leading to price increases. Expansionary monetary policy by central banks can lower interest rates. Central banks like the Federal Reserve can lower the cost for banks to lend, which allows banks to lend more money to businesses and consumers.
The increase in money available throughout the economy leads to more spending and demand for goods and services. Moreover, millions of people — namely, women — have dropped out of the workforce , and it will take some time to get them back in.
Runaway inflation that results in an uncontrollable upward spiral of prices is bad. If it were to happen, the measures the Fed might take to try to combat it could push the country into a recession. However, when it comes to modest inflation, the story is a little more complicated.
Inflation has different effects for different people, Sahm explained. One of the most common examples is savers versus borrowers. Increased inflation is usually accompanied by higher interest rates, and that gives the Fed room to cut interest rates if there is a recession or economic downturn. As for workers, what inflation means is a question of whether wages keep up.
Part of what the Fed is seeking now is for unemployment to get so low — and perhaps some inflation to pick up — so that the labor market gets so tight that wages start to rise. I spent most of to in Argentina, a country that is one of the examples of hyperinflation people often invoke to scare others about the dangers of inflation.
The inflation situation there has been pretty bad for years. Consumers pay for stuff in a bunch of interest-free installments when they can because the assumption is everything will probably be way more expensive soon.
The same goes for Venezuela, another country people often raise fears about. In terms of the US, the worst-case scenario people most often point to is the s, when the US economy experienced a sustained period of high inflation. The average inflation rate across the decade topped 6 percent, and at times, the economy hit double-digit inflation. The decade also saw other economic shocks , such as skyrocketing oil prices and President Richard Nixon ending the dollar convertibility to gold.
The US only gained control of the situation after the Fed took severe measures that pushed the economy into a recession in the early s. In a word, no. Even Summers gives his worst-case prediction only a one-in-three chance of actually happening. In a way, what comes next will be a lesson. Policymakers have been quite emphatic that if inflation picks up too much, they have the ability to get it under control.
If inflation starts to increase too quickly, the Fed can increase interest rates to try to slow things down. That means consumers could see higher interest rates on items such as car loans and credit cards. Our mission has never been more vital than it is in this moment: to empower through understanding. Financial contributions from our readers are a critical part of supporting our resource-intensive work and help us keep our journalism free for all.
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