America is now in its second year of unusually high inflation. The country appears to be past its worst, with the biggest price rises in half a century, but the road back to normality is long and uncertain.
Rising prices in the 24 months to March undermined wage growth, strained consumers and spurred a Federal Reserve response that could trigger a recession.
What caused painful inflation and what comes next? The data show that the situation created by the disruption and government response of the pandemic was exacerbated by the war in Ukraine and the resolution of supply problems. But as the economy slowed, it became clear that it is now cooling. But it also shows that US inflation today is very different from the price gains that first appeared in 2021. This is driven not by the cost of goods, but by stubborn price increases for airfare and services like childcare.
The Fed aims to average 2% inflation over time using the Personal Consumption Expenditure Index released on Friday. The figure draws some data from the Consumer Price Index report released two weeks ago and provides a clear picture of the recent inflation trajectory.
Before the pandemic, inflation hovered around 2% when measured by the overall consumer price index and the “core” index, which excludes food and fuel prices to get a clearer picture of underlying trends. was transitioning. There was a sharp drop in early 2020 when the pandemic began, as people stayed home and stopped spending, before recovering from March 2021.
Part of that initial pop was due to the “bass effect”. The latest inflation data had been measured against numbers that had dipped during the pandemic the year before, so the new numbers appeared to be on the rise. It became clear that something was happening.
Demand for the goods was unusually high. After months of staying home and repeated stimulus checks, the family had more money than usual and were spending it on cars, sofas and deck furniture. At the same time, the pandemic has closed many factories, limiting the supply global companies can produce. Shipping costs skyrocketed, shortages deepened, and the price of physical purchases of everything from electronics to cars skyrocketed.
By late 2021, a second trend has also started. service costIncluding non-physical purchases such as tutoring and tax preparation, were starting to rise rapidly.
Like commodity prices, it is tied to strong demand. Household spending was good, so landlords, childcare providers and restaurants were able to charge more without losing customers.
Across the economy, businesses seized the moment to increase their profits. Profit margins soar in late 2021 before easing late last year.
Firms were also covering mounting costs. Wages were starting to rise more rapidly than usual, which meant companies’ labor costs were ballooning.
Fed officials had expected the shortages to ease, but the combination of faster inflation in services and faster wage growth caught the attention.
Even if rising wages were not the original cause of inflation, policymakers were concerned that wage rates were rising so quickly that it would be difficult for prices to return to their normal pace. They believed companies would continue to raise prices to pass on labor costs.
Worried central banks began raising interest rates in March 2022, putting the brakes on growth by making it more expensive to borrow to buy cars, homes and expand businesses. The goal was to slow down the labor market and make it harder for businesses to raise prices. In just over a year, they’ve raised interest rates to nearly his 5%. This is his fastest adjustment since the 1980s.
But in early 2022, Fed policy began to battle another factor fueling inflation. Russia’s invasion of Ukraine in February sent food and fuel prices skyrocketing. Between that and rising costs of goods and services, overall inflation reached its highest level since the 1980s, reaching about 9% in July.
Since then, inflation has slowed as rising energy and commodity costs have cooled. However, food prices are still rising rapidly and, importantly, the cost of services is still rising rapidly.
In fact, service prices are right at the center of the inflation story right now.
They can quickly start declining in one key area.Housing costs have been rising rapidly for months, but rent increases late lately Real-time private sector data. This is expected to be reflected in the official inflation rate by the second half of the year.
As such, policymakers are concentrating on other services that span a range of purchases, such as medical care, auto repair, and many vacation costs. How quickly these prices (often called “core services, excluding housing”) can recede will determine if and when inflation returns to normal.
Fed officials now have to assess whether the economy is ready to slow down enough to bring down the cost of these vital services.
Between central bank interest rate movements and recent bank turmoil, some officials think it might be. Policymakers predicted in March that he would raise rates only once again in 2023.
But when Fed Chairman Jerome H. Powell conducts his post-meeting press conference, market watchers will listen intently. He could offer a hint as to whether the authorities think the inflation story is headed for a quick conclusion or for another chapter.
Ben Casselman contributed to the report.
