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Inflation is not like a virus that spreads through a population. A rising price in one part of the economy cannot "infect" a price in another part of the economy. A currency doesn't just "catch" inflation because oil prices go up or a drought causes wheat prices to rise. Inflation is the result of an imbalance between the supply of money and the demand to hold it. It's a monetary phenomenon, as Milton Friedman taught us. And it generally results in a rising price for most goods and services.
The reason inflation appeared to rise last month, as the August CPI report implied, is not because of a monetary imbalance. As the charts below will show, the bulk of the apparent rise in inflation can be traced back to the way the BLS calculates inflation in the housing sector. There's another factor at work as well: the BLS can and does make mistakes, and numbers are typically volatile from month to month. Seasonal adjustment factors can be off and in need of revision. Consumer preferences for many goods change as prices change, but the BLS is slow to pick that up. The change in one month's number does not reliably mark a change in trend.
Chart #1
Chart #2
Chart #3
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Oil prices (Chart #3) show a rather sharp increase from 2021 through mid-2022, but they haven't increased at all since pre-Covid times. Since mid-2022, oil prices have actually fallen by 40%! Non-energy commodity prices have fallen by almost 10% since March '22. If inflation is on the rise, someone forgot to tell the commodity markets.
Chart #4
Chart #4 shows that the BLS's calculation for housing inflation today (which they call Owner's Equivalent Rent, or OER) is closely related to the year over year change in national home prices from 18 months prior. Today, home prices nationwide are barely increasing and are very likely to decline. Yet the BLS calculates that housing-related costs rose 4% in the past year.
Chart #5
Chart #5 looks more closely at the behavior of housing inflation according to the BLS. In the past month, BLS calculates that OER rose at a 4.7% annualized rate, and is up at a 3.9% annualized rate over the previous 3 months. At a time when national home prices are on the verge of falling (and rents are flat to down), the BLS figures that housing inflation is accelerating! Trump is right to want a change in BLS leadership.
Chart #6
Chart #6 shows the 6-mo. annualized change in the CPI versus the ex-shelter version of the CPI. Without OER inflation, the CPI has been increasing at about a 2% annual rate for the past 3 years, and the rate of change has actually fallen to a mere 1.7% over the past six months. This means that the uptick in CPI inflation in August was driven by a big increase in the OER component of the CPI, as shown in Chart #5.
Chart #7
10 comments:
you had me until the last sentence. Yes inflation is coming back because the government cannot resist the continual temptation to create money out of thin air. Remember those 700 Ph.D's at the fed seemingly think the "fed rate" drives the inflation, not M2 or money demand.
Everything I've read is Global M2 has been on the rise and now with the Fed potentially lowering rates won't we get a domestic infusion of liquidity? Sorry I'm must be missing something.
That last chart shows M2 supply over nominal GDP. So M2 has been going up but at a slower than nominal GDP for the past 4 years. That curve appears to be trending upwards since April.
Wooly, The argument in the article, to my understanding, is that it's back to a more recent pre-covid trend (notice the slope). I'd agree with the other comment that as soon as there is another economic crisis or a national debt/budget event etc. it will rise again considerably and devaluation will accelerate. i.e. nothing stops this train.
Always talking about 2-3% inflation as ok. It is not ok. The real rate of inflation should be deflation - equal to the productivity rate. All our productivity is largely negated by bank printing, backed up by fed printing. It is, again - it is - the biggest scam in the world and no one seems to care. Almost all of our politicians don't even know how it works. Much our great inventiveness/productivity is being squandered and we blithely accept it. The poor and middle classes particularly are the ones being hurt (last in line for raises after the inflation in assets has taken place) and they have no idea - of course - how it works.
(and, no , people will not delay their purchases because of prices falling a few percent each year.)
Interesting how good the economy was under Trump and in 2021 things started to turn to doo- doo.
Should’ve been Scott Granite instead Mirin on the Fed committee!!!
Hey Scott, In one of your future posts, if you’re open to it, could you give us your take on the high valuations that we see overall in the markets such as the case Schiller P/E ratio And whether this is a good measure for expected future rates of returns. Given your long history in economics and monitoring the financial markets, it’d be great to hear your take on where you think we are, why markets Seem to be so elevated and Does the backdrop of the economics and corporate earnings and profits, etc. support what we are seeing overall in the markets.
Is this gonna be a new roaring 20s or are we at a peak and the future expected returns going to be lower than what we’re used to. This is more rhetorical obviously, I realize no one has a crystal ball, but it’d be cool to get your sense of things based on your lifelong experience
Unless the money supply turns up, the economy will turn down. Inflation is due to decelerate further. But the oil supply shock has kept prices lower than they otherwise would be.
Housing Correction- very quietly, the Zillow index has lost ~13% of its value in real terms since the high in 2022. Current real value is similar to 2006, in inflation-adjusted dollars. The 2008 down-cycle was ~-31%.
wkevinw: I think the weakness is housing prices is significant, and it will only continue. This is good evidence that money is tight and inflation will decline. The crazy way housing enters into the inflation calculation (with a huge lag of up to 18 months) means the inflation news could be better than expected for a long time to come.
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