Inflation is the watchword of the day. But what does inflation mean, and how is it likely to impact you? A perfect storm of events–including hiccups in the supply chain, shortages of essential goods, rising fuel prices and the economic fallout of the pandemic, as well as the various corrective tactics used to manage this fallout–is causing a spike in consumer pricing across the board. And as prices continue to rise, anxiety over inflation has spiraled into full-fledged fear. The Consumer Price Index (CPI) seems to bear this fear out, as do recent indications from the Federal Reserve that interest rate hikes will be coming in the New Year.
But is this actual inflation or just a short-term spike in consumer prices?
Up until recently, economists and policymakers have argued both sides of the coin, with some warning that the worrisome trend could lead to long-term economic calamity and others, including the Federal Reserve and the Biden White House, promising that inflationary trends are a passing phenomenon. Of course, it matters little to the everyday consumer what you call it. All technical wrangling aside, fundamental living expenses like housing, groceries, and cleaning supplies are rising precipitously. Whether the trend is likely to be long- or short-term, many Americans are already feeling the pinch.
To understand what’s happening and how it’s impacting the American consumer, let’s take a closer look at what’s driving talk of inflation, whether the resulting fear is justified, and what its impact is likely to be on your own wallet.
What is inflation?
Inflation is technically defined as a decrease in the buying power of the dollar. When the buying power of the dollar decreases, the cost of goods and services increases. The Bureau of Labor Statistics (BLS) offers a CPI Inflation Calculator, which “uses the Consumer Price Index for All Urban Consumers (CPI-U) U.S. city average series for all items, not seasonally adjusted. This data represents changes in the prices of all goods and services purchased for consumption by urban households.”
This calculator offers a direct indication of just how inflation is impacting the American consumer, and demonstrates some pretty clear and troubling trend-lines as well. At the time of writing in the thick of the 2021 winter holiday shopping season, the calculator does offer a stark and startling figure. According to the calculator, $1 in January of 2020 had the same buying power as $1.65 today. This amounts to the biggest one year jump in consumer pricing since November of 1990.
Contrast that to the buying power of $1 from January 2020 to $.98 in 2019, $.96 in January 2018, and $.94 in January of 2017. We are experiencing a sharp decline in the buying power of the dollar with which the closest comparison is the 1970s. Baby Boomers will likely recall this era of “stagflation” all too well, and comparisons may inspire some sense of urgency about our current situation. The current two-year span, where the buying power of a dollar declined by $.65, is directly mirrored by the inflation trends that persisted across nearly the entire decade of the 70s. $1 had the same buying power in 1970 as did $1.65 in 1978.
And in early November, economists from Goldman Sachs advised Americans to prepare for matters to get worse before they get better. They suggested the trend could persist deep into 2022. For those concerned about where all of this could be headed, note that the buying power of $1 in 1970 was, by 1979, $1.81.
What’s actually happening?
In one sense, notes the Guardian, the U.S. economy is actually performing robustly, particularly in light of the fact that the pandemic persists and rates of COVID hospitalization and death both remain high. As the Guardian points out, “Jobs are coming back, wages are rising, stock markets are hitting record highs. In many ways, the US economy is booming. And yet as we officially enter the holiday season, consumer confidence is at its lowest level in a decade. The reason? Inflation.”
You only need to scroll back a few months in your news feed to find optimistic predictions about the temporary nature of these inflationary trends. Many economists viewed the surge in consumer demand, setbacks in the supply chain, and spikes in pricing as the byproducts of an economic engine revving back up after the extraordinary and unprecedented shutdown of 2020.
To this end, in June of 2021, chief investment officer at investment advisory firm SEIA, Deron McCoy told CNBC that “the current rate of inflation is nothing to worry about — it’s temporary and expected, even if it is unclear when it will eventually fade. And today’s increase is nothing compared with the 1970s, when several unique shocks led inflation to hit double digits.”
But some six months later, even the most optimistic economists and financial agencies are striking a far more ominous tone.
In November of 2021, The Consumer Price Index (CPI) was 6.8% higher than it had been exactly one year prior. Whatever the experts predicted as we entered 2021 flush with optimism about vaccines and infrastructure projects, anxiety over a weakening dollar is now very real for everyday Americans as we endure the highest inflation rates in nearly 40 years.
Economist Paul Krugman notes that these rising prices can be traced clearly to sharp spikes in pricing for a number of staple commodities, with the cost of meat rising by 16%, hotel rooms jumping by 26%, used cars jumping by 31%, and–always at the root of all things–gasoline prices spiked by a rate of 58%.
For some economists, the severity of the rise in the CPI has come as something of a surprise. Krugman notes that as recently as March of 2021, many economists, himself included, still viewed the risk of sustained inflation as low. At the time, the Fed’s Open Market Committee, which is responsible for setting monetary policy, predicted that the preferred price measure (usually a slightly lower but still useful indicator of the CPI) would only rise by 2.4% this year. This forecast was informed by a general sense of optimism that the appearance of inflationary trends, like the pandemic itself, would only be “transitory” in nature.
But once again, like the pandemic itself, the gloomy reality is not so quick to subside. Krugman concedes that “at the very least it’s now clear that ‘transitory’ inflation will last longer than most of us on that team expected. And on Wednesday the Fed moved to tighten monetary policy, reducing its bond purchases and indicating that it expects to raise interest rates at least modestly next year.”
The Guardian reports that the U.S. is not alone in this trend, with the effects being felt in the UK, China and Germany as well. In fact, even as the Federal Reserve set the stage for its upcoming hikes in the interest rate for the U.S., the Bank of England announced an interest rate hike from .1% to .25%. This, as the pound hit its highest rate of inflation in a decade.
In the early stages, economists viewed consumer price spikes with some suspicion. Today, that suspicion has swelled into full-blown concern over the immediate future of buying power for the dollar. There is also a newly apparent sense of urgency coming from within the Federal Reserve, which has already begun to intervene by essentially announcing an end to the government’s post-pandemic stimulus programs.
And of course, the Federal Reserve has now backpedaled fully on its rosier assessments from just a few months ago, recognizing that current trends may not be as temporary as at first predicted.
What’s driving inflation?
CNBC reports that inflation in the U.S. economy is “being driven by a few overlapping factors resulting from the Covid-19 pandemic: low interest rates set by the Federal Reserve, several rounds of direct government stimulus to both consumers and businesses, and pent-up consumer demand that is being unleashed as the U.S. reopens.”
According to CNBC, “All of this has led to demand outpacing supply, causing shortages and price spikes in categories of goods including semiconductor chips, used cars and housing, among others.”
This has also collided with an ongoing supply chain crisis of numerous dimensions including the fitful reemergence of the pandemic in the form of Delta and Omicron variants, high fuel prices, and freak incidents like the early 2021 blockage of the Suez Canal by an errant shipping vessel.
With the convergence of these events, against a backdrop of otherwise strong economic recovery indicators, it’s easy to see why some economists—and officials in the Biden Administration—have characterized this inflationary trend as transitory. And in the grander scheme, it may still be exactly that, in contrast to the sustained inflation of the 1970s, which spilled over into spikes in unemployment and widening poverty through the 1980s.
But at this exact moment, for Americans who are feeling the effects acutely, questions over the supposedly transitory nature of these inflationary trends are far overshadowed by questions over day to day subsistence.
How is all of this impacting U.S. consumers?
Even back in the optimistic days of summer 2021, experts warned that, temporary or not, the effects of rising pricing would be felt by everyday Americans. And depending on the financial cushion in a given household, it might be felt quite profoundly. In June, CNBC reported a 29.7% increase in the price of used cars over the previous year, a 5.6% rise in the price of clothing, and an extremely variable but invariably high spike in the cost of home building and remodeling materials.
“All of this,” director and portfolio advisor at Round Table Wealth Management Steven Saunders told CNBC, “means your paycheck is not going as far as it once did unless your wages are increasing at the same pace, which has not been the case for most individuals.”
Even in the best case scenario, where such trends are short-lived, fully employed, everyday Americans already living by razor thin margins will be forced to make extremely difficult choices between groceries and medication; clothing and cleaning supplies; childcare or home repairs. And as inflationary trends go on longer, many Americans will have fewer choices altogether as home ownership and even property rental become increasingly difficult to access in some markets.
The good news is that wages are rising too. As employers have struggled to lure employees back to work, especially those workers grappling with new and difficult questions about matters like housing, childcare, and health risk factors, wages have gone up by 3% in 2021.
While this is certainly a positive indicator, it doesn’t tell the story of daily struggle faced by specific demographics that have not enjoyed the same spoils of our economic recovery. For instance, college students, seniors, and those living in communities of color which have been disproportionately impacted by the pandemic are not necessarily seeing the benefits of rising wages. And yet, many are forced to make the same decisions in the face of rising housing, food, and fuel costs.
Simply stated, there are many for whom inflation is not defined by trend-lines. It is defined by the daily struggle to subsist on that which was adequate, or perhaps even slightly less than adequate, 24 months ago. As always, the brunt of inflation is already being felt most by those on the lower rungs of the American economic ladder.
Is inflation anxiety justified?
Naturally, for those living by increasingly thin margins, this is hardly a matter of mere fear. The impact is real and consequential. But what about Americans with savings, investments, and businesses? What about those Americans who are experiencing wage increases that, if not directly proportional to the rate of inflation, are at least helping to soften the blow?
Well, may we advise cautious consumer optimism. The Guardian points out that “inflation is a psychological as well as an economic phenomenon. Fear of rising prices is already affecting consumers and could, perversely, lead to more price rises as consumers snap up goods fearing yet more rises in a market that is still constrained by supply chain problems.”
NerdWallet suggests a good alternative to sheer panic, advising consumers to navigate this period of inflation with savvy cost-cutting measures. Tips include stocking up on staple items with fluctuating prices like meat and poultry as soon as they go on sale; targeting discounted generic grocery brands; shopping at big box economy stores like Costco or Sam’s Club; and buying used items through online marketplaces. And if you have an adjustable rate mortgage that will be impacted by future interest rate hikes, Nerdwallet says now is a good time to refinance at a fixed-rate.
In other words, for households that are managing to get by while also managing anxiety over the shrinking power of the dollar, the best way to balance both is to find smart ways to stretch your home budget.
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And if you’re interested in tips on how to stretch this budget while also living a more sustainable lifestyle, check out our 5 Tips to Save Money and Help the Environment.