An insightful column on The Washington Post website does a good job of identifying the bedrock cause of today’s inflation. It is the truckloads of pandemic relief money handed out to individuals, families and businesses by the federal government.
Last week the government reported that consumer prices in December were 7% higher than they were 12 months ago. It was the highest one-year increase since 1982, and anyone who buys anything knows that this inflation has raised the cost of virtually everything.
For a while, columnist Henry Olsen noted, economists believed rising prices were temporary. The causes were seasonal in nature, they said, and caused by lockdowns during the spring of 2021 or by supply-chain issues.
All good points. But Federal Reserve chairman Jerome Powell got it right last week when he told a Senate committee that a classic mismatch between supply and demand is at the root of America’s price problems.
“Demand is high because Americans have more money to spend than ever before,” Olsen wrote. “People of all income levels built up savings during the pandemic, amounting to $2.7 trillion. They banked this money because the federal government handed it out willy-nilly through multiple rounds of stimulus checks to everyone below a certain income level whether they were hurting or not. ... The result: record-high consumer spending despite employment still below pre-pandemic levels.”
The column further noted that consumer spending — the “demand” element of the classic economic equation — is through the roof.
November 2021 spending, applied for an entire year, totalled $16.4 trillion. But the same number in February 2020, right before the coronavirus hit the country, was $1.6 trillion less. That sizable increase in demand explains why supplies cannot keep up, and when that happens, the inevitable result is higher prices.
Olsen believes that if American spending habits follow prior patterns, the amount of saved money will decline as people spend some of their extra cash. But if that happens, it will keep inflation going for a while longer.
He sees only two ways for this problem to end, and neither one is a surprise. Basically, supply needs to catch up with demand.
How to do this? First, the government needs to stop pumping so much money into the economy. That means no more pandemic relief packages, which both President Biden and President Trump have supported.
Second, the Federal Reserve must reduce economic demand by raising the cost of borrowing through higher interest rates. This is a risk, because if the Fed gets too aggressive, it increases the chance of a recession instead of a gradual return to normal.
The Fed already has announced a series of rate increases this year. That needs to happen, because interest rates have been ridiculously low for a decade. Yet in a world of great change, there is some satisfaction in knowing that time-proven economic principles still apply — and that something can be done to reduce these maddening price increases.
— Jack Ryan, McComb Enterprise-Journal