US inflation debate creates unwarranted gloom

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US inflation debate creates unwarranted gloom

Surging inflation has been front-page news recently. With the October year-over-year consumer price index jumping to above 6%, this is understandable. But the search for headline-grabbing stories and polarised US political debate make it hard for Americans to grasp a confusing picture. Gloom pervades, yet the 2022 US outlook is upbeat.

November’s Michigan consumer survey data was startling. Consumer sentiment was down 7% from April 2020, when unemployment was near 15% at the peak of the pandemic versus roughly 4.5% today. The assessment of current conditions is also down from April 2020, yet October retail sales were around 55% higher than April 2020.

Why the gloom? Consumers are rightly concerned about inflation. But perhaps the cacophonous US debate plays a role. Let’s look at some of the different factors.

Media picking and choosing statistics

Base effects are often lost amid the debates. Media reports point to ‘sky high’ fuel prices, the highest in seven years and a near doubling over the past year. But nominal US pump prices are below the levels prevailing during 2011-14, despite the post-pandemic global demand surge, and only up by around a quarter from pre-pandemic levels (Figure 1).

Figure 1: Nominal US pump prices, 2010-21

(Source: Federal Reserve Bank of St Louis)

Everybody is an expert, but who knows what’s really going on?

Economists heavily debate whether current inflation reflects supply or demand-side pressures, or both. Those emphasising supply-side features focus on chip shortages, port backlogs, a surge in demand for durables at the expense of services/leisure – in short, relative price changes.

The demand-side camp focuses more on US fiscal packages putting excess money into the hands of US households, causing generalised price increases. They further point to rising ‘sticky’ prices, such as housing, that adjust with a lag. Neither side properly understands why traditional labour market measures point to largely remaining slack while job openings are high, or what this means for inflation.

‘Team transitory’ versus ‘Team persistent

Views on inflation are segregated into two camps, yet these terms are undefined. However, the key question is not so much about duration, but whether inflation becomes embedded in a wage/price spiral.

Do economists really know how much inflation is due to supply or demand factors? Do they really understand chip shortages and port backlogs and how they impact the CPI? Do they have a firm grasp on labour market dynamics? Will inflation turn into self-reinforcing second-round effects? And who can predict whether there will be new Covid-19 variants and how they will impact prices?


Among advanced economies, the US has staged the fastest recovery. That is why US unemployment has fallen so sharply. Our labour market is robust, and US gross domestic product is already above its pre-pandemic level and approaching its pre-pandemic trend line.

Yet often lost in the cacophony is the critical point that, to the extent strong US fiscal stimulus is seen as causing surging demand and prices, the flipside would be less growth and higher unemployment. And the other critical point is that if the Federal Reserve overreacts, recovery will prove harder.

It’s darkest before the dawn

While we fret now, what do forecasts show for the inflation outlook? Many show inflation continuing robustly through the first part of 2022, but then falling – core personal consumption expenditure will be 2.5% (plus or minus 0.25%) over the fourth quarter of 2021. That is still above the Fed’s 2% average inflation target, but hardly a major overshoot, and a far cry from 6%. And projections for 2023 show inflation falling further.

Also, according to recent reports, big retailers have secured their supplies for the Christmas season, oil prices are ticking downwards, the chip supply crunch is projected to abate in the second half of 2022 and container transport prices have slightly eased along with the logjam at the Los Angeles port.

Armchair commentating

Policy-makers can only act upon the knowledge they have at the time. Prior to the October CPI, the Fed was already discussing tapering and bringing asset purchases to an end by mid-2022. Half of the Federal Open Market Committee dots were pointing to a 2022 rate lift-off.

Many of the Fed’s critics came out of the woodwork after the October CPI publication, lambasting the Fed as behind the curve. Yet, before October, many voices had been relatively muted, although some analysts, such as Larry Summers and Olivier Blanchard, had been calling the Fed out for being too accommodative.

The FOMC is already debating accelerating the pace of tapering. That would pave the way to a faster pace of rate hikes starting in 2022. The December FOMC meeting and dot plot will be illuminating. Yet, critics often don’t make clear how they would react differently to the Fed to incoming data.

There is much economic gloom in the US today. But the 2022 outlook is for decent growth, falling unemployment, an easing of supply constraints, a fiscal contraction which will reduce demand pressures, though drawdowns of excess savings may play a mitigating role, and subsiding inflation to below 3%. The gloom hardly seems justified but perhaps is inevitable given the cacophonous fog.

Mark Sobel is US Chairman of OMFIF.

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Author: Mark Sobel

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