US Economy

American Inflation: Turning up the Economic Heaters

Inflation is up this year, but is this just because it was so low last year, or should we be worried?

30th March 2021 13:45 GMT

At the start of the COVID crisis back in Spring of 2020, the consumer price index was shaking. No demand for oil, hospitality and rents left a huge hole, and rumours of deflation entered the news. The CPI and the measure used by the Fed, the price index for personal consumption (PCE) shot down. This came as a surprise to nobody given the climate, and yet as inflation figures come out today, there are serious worries. The statistic being flaunted on the headlines is a 2.6% increase in consumer prices from the year earlier, yet a year earlier the US was facing some of the lowest rates of inflation in history.

 

But this doesn’t mean this rise should be completely ignored. Inflation is still inflation, and it's certainly on the rise. The shouts of a ‘mathematical quirk’ blowing inflation past its true value are helpful in some ways and very unhelpful in others. As economies crawl out of the COVID pit they were placed into, inflation is a worry, especially with relaxing social distancing measures on Joe Biden’s $1.9 trillion stimulus. Many senior economists have been calling inflation dead for the last decade, as high levels of government borrowing and spending have had little to no effect on the figures, but this is no regular level of spending.

 

In March of this year, prices rose by 0.6% compared to just a month earlier, with a large jump in petrol prices contributing massively to this, but even the ‘core consumer price index’ which doesn’t include any fuel or oil prices was up 0.3%. If this trend continued that would be a 4.1% increase in a single year. The booming economy brings with it higher prices, and there is a belief that in annual rate could easily reach 4% in May. A very worrying figure.

 

Inflation matters more than usual right now too. Often high inflation is almost seen positively, being a tell-tale sign of a booming economy, but as this economic boom was almost guaranteed (it's hard for an economy to do worse than it did in a global pandemic), inflation is far more worrying, casting shadows of doubt over potential spending and investment. There isn’t just a risk of an overheating economy, but consequences if it does.

 

But there is belief in the Fed and the White House that this inflation will only be temporary, but this brings us back to the risk of a mathematical quirk. Just as inflation was up this year because it was so low last year, when inflation seems to be steady this time next year, and Biden looks for some praise for his handling of the pandemic and the economy, it will be the same as a year in which we saw record inflammatory changes.

 

The financial markets are certainly worried. Not listening to the Fed, they have priced in for growing risk and long periods of inflation, perhaps for the entirety of 2022. Their main worries are over the labour market, where levels of employment are over 8 million jobs short of levels in February 2020.

 

The Fed is yet to give a proper response to the inflation change too. Whether this shows a belief that there is no need to intervene or if they just haven’t gotten round to it yet I don’t know, but something should be done to prevent the afterburners from being turned on as well. The Fed is deliberately avoiding using a numerical target, instead keeping it as vague as they can. This is bad news for the American Economy. Complacency leads to poor results, and a lack of clarity often means complacency. The monetary-policy meeting which starts on April 27th would be a good place to start if the Fed is to avoid disaster.

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