You may have noticed that it is more expensive to feed yourself and feed your car than it was last year. I’ve heard from many people saying that inflation is out of control. Yet inflation, at least for now, is rather benign. So what’s going on?
Often when you hear economists talk about inflation, they will strip energy and food prices out of the equation. Why? Because they are so volatile. Those measures, while certainly important, can mask what’s happening in the broader economy.
Here’s why. If new cars suddenly cost 20% more, most people will put off buying a car. That’s because most folks buy a car long before there is any true need for one. Computer prices jump 20%? You’d probably put off that computer purchase and make do with the one you have. Same with housing, clothing, appliances, and many other expenditures.
That’s not to say that everyone can put off a purchase. If my laptop goes out, I must get another one quickly…my livelihood depends on it. If your car catches fire and melts before your eyes, you can’t put off purchasing the next one. But for most people in the market for a car, computer, couch, or washing machine, they can postpone the purchase for many months, if not years.
On the other hand, if vegetables, fruit, and cereal all go up 20%, you would have a hard time putting off your next purchase. We just can’t use the food we already have…we ate it. Same with gasoline…the car ate that. Sure, we can curtail some trips, but an excuse of gasoline being too expensive will likely not sit well with your boss if you choose not to drive to work a day a week to cut back on costs. No, if food and gasoline prices go up, we pay them and cut back elsewhere.
And cutting back elsewhere means that there is less demand for other stuff. You may go out to the movies less, not renew a magazine subscription, or have to cancel that cruise to Cozumel. The result is that while you’ll feel inflation in food and energy, you might experience deflation in movies, magazines, and cruises if the companies that sell them have to lower prices to attract more users.
This isn’t just theory. While the spike in food and energy prices is very real, about a quarter of the measures inside the consumer price index (CPI) has seen price decreases. So no, inflation is not out of control; rather, inflation anxiety is.
That inflation anxiety is not wrong, however. It is a natural result in what people see in their daily lives. If prices were spiking in housing, autos, and furniture, most families could negate the effects by not moving, driving the car they already have, and putting a cover over the stained couch. But when spiking prices are in food and fuel, few options remain for a family to negate the effects.
Those pesky price increases you see in the grocery store and at the pump are very real. So why do Bernanke and the Fed seem to not be all that concerned with inflation? It’s not so much that they are out of tune with the real world (they might be, but that’s not the reason). Instead, it is because they have tools to affect inflation across the economy as a whole. And the economy as a whole is not experiencing detrimental increases in prices, no matter what you are feeling in the grocery aisles and at the pump.