My, My, Hey, Hey,
Inflation, dude, is here to stay
As I reported last week, the latest numbers for our Gross Domestic Product were bad news, with the economy returning to its long-term path of slow growth, possibly even perennial stagnation. What I did not include was the inflation numbers that came with this national-accounts equivalent of a cold shower. Embedded in the GDP update from the Bureau of Economic Analysis is a host of inflation data that should send a chill down the spine of every responsible member of Congress.
Inflation, measured as the GDP deflator, has now exceeded four percent per year for two consecutive quarters: 4.05 percent in the second quarter and 4.57 percent in the third quarter. We have not seen inflation at this level since 1989, when inflation reached 4.17 percent in Q1 and 4.25 percent in Q2. The difference is that back then, the economy was operating at the height of its capacity. Workforce participation averaged 62.5 percent for those two quarters, compared to 57.7 percent for Q2 and Q3 of 2021 – a difference of about 7.5 million workers being idle or in the workforce.
Before 1989, you have to go all the way back to 1983, when in Q1 and Q2 GDP-measured inflation stood at 4.6 and four percent flat, respectively. However, at that time we were coming out of the stagflation quagmire of the late 1970s and early 1980s. Since our economy today is operating at a noticeably lower capacity than just a couple of years ago – workforce participation today is stubbornly stuck below 60 percent while running above that mark for most of the Trump presidency – our inflation is of the dangerous stagflation kind.
In fact, the inflation we are seeing now is high even if we look further back in time. Figure 1 reports GDP-deflator inflation all the way back to 1948 (as far as the relevant BEA raw data takes us): prior to the 1970s, we have to reach all the way back to the days of the Korean war to see inflation rates at this level.
The depth of this inflation is visible throughout the economy. In private consumption, we see a surge in prices where there was deflation for almost a quarter of a century: prices of durable consumer goods fell every quarter for 25 years: from Q4 in 1995 through Q2 in 2020. In the last two quarters of that year, prices increased modestly by 0.05 and 0.8 percent, respectively.
Then prices took off: 1.75 percent in Q1 this year, 6.56 percent in Q2 and 7.05 percent in Q3. The prices of durable consumer goods have not increased his fast in 40 years. But there is more: prices of perishables – short-lasting consumer products – have not increased at more than four percent per year since 2008; in Q2 this year they rose by 4.2 percent, reaching 4.8 percent in Q3.
Services, the largest share of consumer spending, also saw significant inflation. While not at the same levels as goods, the prices for consumer services – everything from a haircut and a Greyhound bus ride to a car insurance plan and a visit to the local urgent-care clinic – increased at 3.24 and 3.5 percent, respectively, in Q2 and Q3. These are the highest rates in 14 years.
In short: inflation is coming from everywhere:
Businesses also suffer inflation in their attempts to maintain and expand their productive capital. Plainly: rapid price hikes are plaguing the construction of factories, warehouses, office buildings and other facilities for business operations. However, the fastest inflation right now is in the construction of new homes, where inflation is so high that it matches the stagflation peak of four decades ago:
It is a bit positive to see that once businesses have put their structures in place, they can still buy equipment – everything from office furniture and computers to delivery trucks and production-line robots – at relatively stable prices. That said, there is a worrisome spike in equipment prices in Q3.
Overall, inflation continues to entrench itself in the U.S. economy. I have predicted that by the end of the year we would have 9.5-10 percent inflation. I made that prediction at the beginning of the year, based in good part on the outlook for the Democrat spending agenda in Congress. That agenda has not yet materialized as they planned, and the Federal Reserve has begun to show some resistance to further monetization of the economy. It remains to be seen where inflation lands at the end of the year, but barring a miracle it is likely to be closer to ten percent than closer to five.
In other words, my forecast from early January remains one of the most realistic that any economist has made this year.