During the past year or so, the notion that inflation is racing out of control has become firmly engrained among Americans, and it isn’t hard to see why. In the twelve months to July, the price of gasoline went up forty-four per cent, the cost of fuel oil rose 75.6 per cent, and the price of groceries went up 13.1 per cent. Finally, however, hard-pressed households are getting a bit of relief.
After reaching $5.10 a couple months ago, the average price of a gallon of regular gasoline nationwide has fallen to $3.99, according to A.A.A. After dropping another penny on Wednesday, prices have now declined for fifty-eight days in a row, reflecting a sizable drop in the price of crude oil on world markets. The cost of fuel oil also fell sharply last month, and so did the price of some other items that had previously seen big price hikes—such as air fares and hotel stays. Consequently, the over-all rate of inflation, as measured by the Consumer Price Index, fell from 9.1 per cent in June to 8.5 per cent in July, according to the Labor Department, which released its latest report on Wednesday.
These figures refer to price rises over the previous twelve months, and obviously, a rate of 8.5 per cent is still unacceptably high. But these numbers don’t adequately convey the unexpected nature of what has happened more recently. In July, over-all prices didn’t rise at all. Whether you look at prices on an unadjusted or a seasonally adjusted basis, the C.P.I. was flat, as the decline in energy prices offset further increases in rents and the cost of food. In other words, inflation took a month off. This was the first time since May, 2020—during the pandemic lockdowns—that the C.P.I. didn’t go up , and it was an outcome that few economists predicted.
Yet again, our crazy post-lockdown economy has surprised the experts, and there was more encouraging news on Thursday, when the Labor Department reported that the Producer Price Index, which covers the prices that businesses pay for their supplies, fell by 0.5 per cent in July, the biggest decline in more than two years. Like the flat C.P.I. figure, the drop in the P.P.I. was largely due to declining energy prices, but what’s happening in the energy sector isn’t the only signal that inflation pressures are finally relenting somewhat.
Last month, the so-called core C.P.I., which excludes energy and food prices, rose by 0.3 per cent, compared with a jump of 0.7 per cent in the previous month. This slowdown reflected price drops in some areas that had previously seen large increases, such as the travel sector. Air fares dropped 7.8 per cent, the price of car and truck rentals fell by 9.5 per cent, and the cost of hotel rooms slipped by 3.2 per cent. The price of many hard goods, such as computers and sports equipment, also fell slightly, suggesting that at least some of the global supply-chain problems that have driven up prices over the past couple years are, at last, being fixed.
On the other side of the ledger, rents rose another 0.7 per cent; the price of new vehicles, which are still in short supply, increased 0.6 per cent; and the cost of groceries jumped another 1.3 per cent, with bread prices rising by 2.8 per cent. The fact that food prices have continued to increase is particularly striking, because, over the past couple months, many of the factors that have been blamed for this phenomenon have gone into reverse. Energy prices and transport costs have fallen. So have the prices of many agricultural commodities, including wheat, soybeans, and sugar. Yet food producers such as Kraft Heinz and Mondelez are still raising their prices.
One interpretation of this disconnect is that it always takes a while for changes in the prices of commodities to be translated into the price of finished goods. A less benign interpretation is that the big food companies are padding their profits. In either case, though, a sustained drop in commodity prices should eventually lead to lower food prices, a development which would be warmly greeted by consumers. If this fall is accompanied by further declines in energy prices, the headline rate of inflation will almost certainly drop a good deal further. According to the investment bank Jefferies, the fall in gas prices since the end of July alone could reduce the August C.P.I. by 0.6 per cent. By the end of the year, the over-all inflation rate could be in the “low sevens, or high sixes,” Gregory Daco, the chief economist at EY-Parthenon, told me, while the core rate, which the Federal Reserve monitors closely, could be in the “low fives, or high fours.”
In other words, there is little prospect of inflation returning to the Federal Reserve’s target of two per cent anytime soon. And if the war in Ukraine escalates, prompting another surge in oil prices, or a deadlier new variant of the coronavirus emerges and causes more global lockdowns, the recent drop could conceivably reverse itself. But, barring a calamity on that scale, U.S. inflation appears to have peaked. “Pressures from commodity prices, supply chain issues, and reopening (travel) are all fading,” Aneta Markowska and Thomas Simons, of Jefferies, wrote in a client circular. “Labor costs continue to be an issue, and we still think they’ll put a floor under inflation around 4%, but that will not be apparent until next year.”
An inflation rate of four or five per cent would have very different consequences than a rate of nine or ten per cent. History shows that, when very large price increases are sustained over a lengthy period, people adjust their behavior—including their wage claims—accordingly. This is what can lead to a nineteen-seventies-style wage-price spiral. But if inflation falls further people’s expectations of future price rises will also decline. In fact, this is already happening. “Median one- and three-year-ahead inflation expectations both declined sharply in July, from 6.8 percent and 3.6 percent in June to 6.2 percent and 3.2 percent, respectively,” the New York Fed reported this week.
“We are certainly not in a wage-price spiral,” Daco said. “I don’t see that in the figures or in my conversations with business leaders.” That’s another reassuring element of the current situation. Although the big inflation spike of the past year isn’t over, the outlook is gradually improving. ♦