Thursday, May 12, 2022

What Caused Such A Terrible Inflation?

Popular Economics Weekly


The St Louis Federal Reserve graph tells us what is going on with April’s plunge in the Consumer Price Index. It’s due to a moderation of soaring gas prices. But food, shelter, and supply shortages haven’t moderated that have also pushed prices higher. 

So, how long will such an inflation persist that is terrifying everyone?

The consumer price index rose just 0.3 percent last month, the government said Wednesday, matching the smallest increase in eight months. The yearly rate of U.S. inflation fell to 8.3 percent in April to mark the first decline in eight months.

Grocery prices have increased 10.8 percent in the past year, the biggest surge since 1981.The cost of rent and housing both rose sharply again in April and helped explain the big increase in the core rate of inflation.

Over the past year the cost of shelter has climbed 5.1 percent to mark the largest gain in 40 years. Shelter costs account for a third or more of a typical household budget. There are shortages everywhere, and such so-called ‘supply shocks’ are the cause of soaring inflation, mainly caused by the pandemic. Another ‘supply shock’ has been the reluctance of workers to return to work after the pandemic, causing a slowdown in production.

One year ago prices were at rock bottom, as were interest rates. Today, the demand by consumers and businesses (flush with cash and cheap loans) for goods and services has gotten ahead of supply chains, in other words. But sooner or later supply will catch up as businesses recover from the pandemic, and demand will slow because rising prices cause spending to slow.

So, is this panic time for the Fed to be jacking up interest rates drastically? No, as I said recently. The Ukraine war and China’s COVID are adding to the supply shocks as well, which is another temporary phenomenon.

Too much government aid that is putting too much money in consumers’ pockets is the conservative answer to bring down inflation, which means they really want to cut back on government spending, in spite of the voting for all the aid packages, including the latest infrastructure bill that will create more high wage jobs.

It is the wrong thing to do at this time, since more government spending is spurring higher production, as well. That’s why Fed Chair Powell said recently he was confident that just two rate hikes of 50 basis points each should be enough to slow inflation for the rest of this year. It should also tame fears about future rate increases, by assuring their predictability.

It also looks like the cost of wholesale goods and services has also peaked, as it rose a milder 0.5% in April vs the prior month. In March, wholesale prices had jumped 1.6% largely because of a surge in oil prices. The increase in wholesale prices over the past year, meanwhile, slowed to 11% from 11.5%, the government said Thursday.

So why the sudden recession fears? Such fears defy both logic and history. Serious recessions take a long time to manifest, as I also said recently.

It took two years under Chairman Greenspan to ring on a recession. The Fed raised its rates 16 times over that term after holding rates below the inflation rate for too long in early 2000, causing the Great Recession. The so-called stagflation wage-price spiral of the 1970s was 10-year period when energy prices soared. That took more years and multiple recessions before Fed Chair Volker brought down inflation by raising interest rates into the double digits.

No one wants that to happen now, of course. Even more important is the recovery from a lingering pandemic, and aiding Europeans in winning their war in Ukraine. Russia is in many ways a failed state with a steadily shrinking economy, a massive brain drain of its best and brightest, and a dictator who believes he is reviving a Czarist Empire from another century.

The world’s economies are still in rehabilitation, and the patient will require considerable longer-term care to bring it to a full recovery.

Harlan Green © 2022

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