Why Do We Care About Inflation?

The title question may seem obvious. “We” care about inflation because, ultimately, any dollars we have saved will purchase fewer real goods and services. Additionally, we might worry that our incomes are not keeping pace with the increase in the prices of good and services that we want to purchase.

But the answer to that question is a little more nuanced. “We” also care about why prices are increasing. I keep putting “we” in quotation marks because who the we is crucial for answering the question. For example, individuals and families primarily care about inflation for the reasons I stated in the first paragraph.

But central bankers care about inflation for different reasons. In broad terms, monetary policy is an attempt to smooth out the fluctuations in the economy, especially to make recessions shorter and less deep. But monetary officials want to know: is the policy they are putting in place leading to prices rising in general? If so, especially if inflation gets above certain target levels, it may mean that monetary has been “too loose.”

However, if particular prices are rising, say the price of cars (due to a lack of computer chips), central bankers don’t really care about this: it gives them no indication of whether they’ve done “too much” or “too little” with regards to stimulating the economy. Similarly, if gasoline prices rise, consumers really care about this. Central bankers, not so much: it doesn’t really tell them much about their goal (stimulating the economy with stimulating it too much).

And because some prices are so volatile, historical context is important for understanding what a recent increase or decrease means. For example, gasoline prices are up 45% in the past 12 months. That’s a lot! But it’s an increase from a very low base, and the historical reality is that gasoline prices today (around $3.00/gallon on average) are at similar levels to what they were way back in 2006, and are lower than they were for almost all of 2011-2014. And these are all in nominal terms, median household income has gone up a lot since 2006 (up 40% in nominal terms) and even since 2014 (up 25%).

All of this is important background for thinking about the latest release of the CPI-U data this week. The headline inflation number of 5.3% is indeed startling, similar to last month. We haven’t touched that level since mid-2008, and that was only for a few months. If consumer price inflation were to stay at around 5% for a sustained period of time, it would be a new, harsh reality for most consumers today: we haven’t had a year with 5% inflation since 1990, and for the past decade the average has hung around 2%.

So will it stay this high? Sadly, I have no crystal ball and I will just reiterate what I said last month: the picture is just too muddled right now to say anything concrete. Perhaps by the end of the year we will have a better picture. But is there anything we can say right now even with the muddled picture? I continue to like this chart from the Council of Economic Advisors:

Image

Bottom line: if we strip out the unusual supply chain disruptions to automobiles as well as airline/hotel prices making up for lost ground during the pandemic, inflation is at completely normal levels. It’s almost exactly 2%

But is this cheating? Can we really strip out the things that are increasing at rapid rates?

Continue reading

Back to School! But what’s up with college pricing?

It’s time to head back to school! Which means it’s time for college students to once again ask the question: How am I going to pay for this?

It’s common knowledge that college is expensive and getting more expensive every year. A Google search for “skyrocketing tuition” produces almost 60,000 results. But whenever a fact is so commonly accepted, it’s worth asking if it’s really true.

Here’s one way to think about: are college tuition and fees increasing faster than the overall rate of inflation? For much of recent history, the answer has been most definitely “yes.” I start the series here in 2006, because there were some methodological changes to the index just before 2006. Cumulatively, college tuition and fees (as measured in the CPI) have increased by 78%, while prices overall have only increased by about 38%.

But for the very recent history, since 2017, the answer is “no.” College tuition and fees have often been increasing at slower rates than overall prices in the CPI, and the difference is especially dramatic in 2021. Since 2017, overall prices have increased by about 12.4%, but college tuition and fees has only increased by 7.8%.

However, even this data overstates how much tuition and fees have gone up for undergraduates in the US!

Continue reading

Beer, Hot Dogs, and Inflation

The latest inflation data for the US has been released, and the headline CPI-U annual increase of 5.4% is once again raising worries that high inflation could be a permanent part of the landscape for the near future.

My personal opinion is that the picture is much too muddled now, between temporary supply issues and low bases for 2020 prices, to say much about the medium-term picture. I think we’ll have a better picture by the end of the year. Still, it’s worth drilling down into the data, as we have done in the past on this blog, to understand some things about economics, prices, and how price changes are impacting real people.

Certainly the prices of some goods are rising at alarming rates. Many of these are related to automobiles and transportation generally, but some categories of food have rose a lot in the past year too (though groceries overall are only up 2.6%).

But I want to talk about two categories of consumption: beer and hot dogs.

Actually, my co-blogger Zachary has already written about beer. And using the producer price index, he found that canned beer is actually cheaper than it was a year ago. If you like canned beer, rejoice! And for all beer at home, the CPI shows only a 1.8% increase since last year, after a similar small 1.6% increase last July (not much of a base effect… a clue for later!).

But not all Americans consumer alcohol. So let’s talk about that most American food product: the hot dog.

Why should we care about hot dogs? Read on.

Continue reading