Inflation is cooling off just as economists, the Fed, and Biden expected

Costco shoppers outside one of its stores
Costco shoppers outside one of its stores

  • The PCE inflation measure rose 0.4% in July, signaling a slowdown in price growth from the prior month.
  • The print matched the median economist estimate. It was the slowest price growth since February.
  • The Federal Reserve and the Biden administration expect inflation to cool as the economy settles into a new normal.
  • See more stories on Insider’s business page.

Prices for common goods rose as expected in July as case counts rebounded and reopening-fueled demand softened.

The Personal Consumption Expenditures price index – one of the most popular measures of US inflation – jumped 0.4% last month, the Commerce Department said Friday. That matches the median forecast of a 0.4% increase. The print reflects a slowdown from June’s inflation rate and the slowest price growth since February.

On a year-over-year basis, the metric rose 4.2%. That just exceeded the median estimate of a 4.1% gain.

The Core PCE index, which excludes volatile energy and food prices, rose 0.3% through July, according to the report. That also matched economist estimates.

Core PCE is the inflation measure of choice for the Federal Reserve, which is tasked with ensuring inflation doesn’t rise too high. The central bank has said it will let inflation run above 2% year-over-year for some time as the economy recovers. Policymakers also expect the recent inflation surge to prove “transitory” and fade into 2022 as the US settles into a post-pandemic normal.

The PCE reading comes a few weeks after a similar inflation measure showed price growth easing in July. The Consumer Price Index climbed 0.5% last month, matching economist forecasts and marking a sharp deceleration from June’s 0.9% pace. The measure also rose 5.4% year-over-year, still the highest since 2008 but holding flat from June’s year-over-year level.

The slowdown from June’s inflation print suggests the demand boom seen through reopening could be petering out. Inflation soared to decade-highs through the spring and summer as vaccination helped the US reverse lockdowns. Economic activity rebounded, but where demand quickly shot higher, producers struggled to keep up. Bottlenecks and shortages left suppliers on the back foot, and the resulting gap between businesses’ supply and Americans’ demand drove prices higher.

Where inflation accelerated the most hints at a future slowdown. Sectors associated with reopening and the direst supply shortages saw prices leap the fastest. Used car prices leaped at least 7.3% for three months in a row before rising just 0.2% in July, according to the CPI report. Airline tickets, fuel, and service businesses also counted for much of the overshoot.

Since the categories are so closely linked to reopening, it’s likely inflation will cool off as supply chains heal and demand wanes, Fed Chair Jerome Powell said in a July 28 press conference.

“Essentially all of the overshoot can be tied to a handful of categories. It isn’t the kind of inflation that’s spread broadly across the economy,” he said. “And each of those has a story attached to it that is really about the reopening of the economy.”

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There is a fundamental misunderstanding of inflation and its spread throughout sectors of the economy proves it is not isolated or transitory, Mohamed El-Erian says

Mohamed El-Erian, Chief Economic Adviser of Allianz appears on a segment of "Mornings With Maria" with Maria Bartiromo on the FOX Business Network on April 29, 2016 in New York City.
Mohamed El-Erian.

  • Mohamed El-Erian said there is a fundamental misunderstanding of inflation because few people have lived through it.
  • “I always laugh when people say, oh, it’s isolated, it’s transitory,” El-Erian told CNBC on Monday.
  • He also disagreed with the Federal Reserve’s view that inflation is transitory.
  • Sign up here for our daily newsletter, 10 Things Before the Opening Bell

Economist Mohamed El-Erian in an interview Monday took aim at assessments of inflation that describe rising prices as “transitory,” stating that there is a fundamental misunderstanding of what inflation is and how it is already spreading throughout the economy.

“I always laugh when people say, oh, it’s isolated, it’s transitory,” Allianz’s chief economic adviser told CNBC. “I think there’s a fundamental misunderstanding about inflation today because … most people haven’t lived through it for a long time and certainly most traders on Wall Street haven’t traded through it.”

El-Erian pointed to the surge in used cars prices to their highest in more than 60 years, which has been followed by an increase in prices of new cars, and a rise in the price of rental cars. This, he said, shows inflation is not contained.

“There is a logic to these inflation chains. They take time, and most people, unfortunately, haven’t seen them,” El-Erian told CNBC. “So they think everything’s isolated. Actually, it’s not. It’s interconnected.”

El-Erian, who is also the president of Queens’ College, Cambridge University, countered the longstanding narrative of the Federal Reserve that inflationary pressures are temporary.

The central bank slashed rates to historic lows at the start of the pandemic to stimulate economic activity and has signaled its intention of keeping interest rates unchanged until 2023.

Fed Chair Jerome Powell has repeatedly said that inflation will pass as the economy settles into a new normal. However, updated rate-hike projections six weeks ago signal that the central bank could see inflation posing a larger risk than initially thought. Powell is expected to issue a new statement this week, on July 28 at 2 p.m. ET.

“I don’t expect fireworks, El-Erian said. “The Fed has adopted a new framework that is backward-looking. They’re no longer forecast-based; they’re outcome-based.”

El-Erian also maintained that inflation will continue to run higher.

“The big question for me is not whether inflation will be higher than what the Fed expects,” he told CNBC. “It is whether the system is wired loosely enough to adjust to that – and that’s what we going to learn.”

The Consumer Price Index rose 0.9% between May and June, much more than the consensus estimate of 0.5%.

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Your rents are going to keep going up

Apartments for rent california
Pedestrians walk past advertising for new apartments in Los Angeles, California on October 12, 2017

  • Rent prices soared 9.2% in the first half of 2021, tripling the average pace and exceeding the pre-crisis trend.
  • Shelter inflation is set to keep climbing as millennial demand booms, analyst Logan Mohtashami said.
  • That upswing risks turning higher inflation permanent, as rent prices are tougher to rein in.
  • See more stories on Insider’s business page.

Pandemic-era rental deals are gone. Prices are shooting up, and new data suggests they’ll keep climbing at a breakneck pace.

The rally began in the housing market, where a buying frenzy dragged national inventory to historic lows and led prices to surge at their fastest rate in over 30 years. Now it’s spilling over into the rental market.

The median apartment rent in the US rose 9.2% through the first six months of 2021, rental website Apartment List said in a June 29 report. That compares to the typical first-half growth of 2% to 3%. June alone saw the website’s national rental index leap 2.3%.

The typical price nationwide now stands 2% higher than had the pandemic not taken place, according to Apartment List. That overshoot is concentrated in growing markets like Austin and San Diego, as rents in the largest metropolitan areas remain below trend.

“Whereas last year’s peak moving season was halted by the pandemic, this year’s seasonal spike appears to be making up for lost time,” Apartment List economists Chris Salviati, Igor Popov, and Rob Warnock said in a blog post.

Apartment List
Source: Apartment List

The elevated price growth isn’t likely to cool off anytime soon, Logan Mohtashami, lead analyst at Housing Wire, said. Millennials are set to power unprecedented demand over the next three years throughout the housing market. That shift will drive an even bigger gap between supply and demand, the analyst said.

“We never built enough apartments anyway. And now we have the biggest household-formation demographic group in history,” he told Insider. “Whether they’re not buying homes, they still have to live somewhere. So yeah, rent inflation should pick up.”

Rising rents pose a larger-than-usual risk to broad price growth. Shelter inflation is stickier than inflation in other categories, meaning it’s less likely to immediately cool after leaping higher.

The Federal Reserve, the White House, and most economists expect decade-high inflation to cool off as bottlenecks are addressed. Inflation for used cars, food, and utilities is expected to weaken as supply rebounds. Rent prices, however, complicate the consensus outlook. If shelter inflation continues to boom, forecasts for temporarily faster price growth could fall flat.

To be sure, rent prices are highly seasonal, and prices tend to be highest in the summer, according to Apartment List. If prices follow trends seen in 2018 and 2019, prices would fall modestly through the fall and winter. Such declines could line up with a slowing of broader inflation.

But with rents in major cities expected to keep climbing, shelter inflation is a top gauge to watch for hints at whether price growth fades as expected or stays past its welcome.

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How the American consumer may be saving the economy by spending less – and keeping inflation at bay

car shopper window sticker dealership
A car shopper looks at a window sticker in a dealership.

  • Early indicators suggest Americans are cutting spending on certain items, which is keeping inflation at bay.
  • Prices for used cars and homes skyrocketed in the spring, and consumers now seem wary.
  • Since durable goods fueled much of the recent inflation overshoot, lower spending on them could halt a spiral.
  • See more stories on Insider’s business page.

Inflation is back, maybe you heard. Or is it?

One side of the debate that has raged since the economy reopened argues Democrats’ latest stimulus is lifting inflation to dangerous levels.

The other camp, which includes the Biden administration and the Federal Reserve, attributes the recent jump in price growth to the economic reopening and views the overshoot as “transitory.” But it was quite a jump, as inflation soared to its fastest rate since 2008 in May.

For all the hemming and hawing over inflation, countering dangerous price growth is relatively simple: Consumers’ spending habits decide whether inflation spirals out of control. After governments reversed lockdown measures and vaccines reached arms, retail sales hit record highs, as reopening turned into a bona fide spending boom.

The problem with this spending boom is that supply has come up short. Bottlenecks throughout the global economy have slowed the production of goods ranging from furniture to ketchup, causing shortages almost everywhere you look and, in turn, massive price increases. And it’s spending on stuff, or durable goods – think cars and appliances rather than food and fuel – that has led broad inflation gauges higher through reopening. Prices within the category rose 3% from April to May alone after soaring 3.5% the month prior.

The American consumer is pretty intelligent, though, as early signs suggest they are shifting their spending patterns, in apparent recognition that a few key items are way out of step in terms of price increases. Instead of caving to higher prices, Americans appear to be holding off on some purchases and giving suppliers some extra time to catch up.

Used car and truck prices were the single largest contributor to the Consumer Price Index in April and May, rising 10% and 7.3%, respectively. A global shortage of semiconductors hobbled auto manufacturers through spring, leaving many to seek out previously owned vehicles.

Yet recent indicators show the price surge slowing sharply in June. The Manheim Used Vehicle Value Index rose just 0.3% in a preliminary June reading, down from the 4.8% jump in May. The meager increase signals used-car inflation could be nearing its peak before reversing course.

Separately, 24% of Americans referenced high vehicle prices when evaluating the autos market in May, according to the University of Michigan’s consumer sentiment survey. That’s the highest reading since 1997.

A similar trend is emerging in the housing market. Sales of both existing and newly built homes slid again in May as a dire housing shortage has sent prices soaring. At the same time, a record-high 48% of consumers cited high prices in their evaluations of the housing market, according to the University of Michigan survey.

The unevenness is “all common sense,” John Cochrane, a senior fellow of the Hoover Institution at Stanford University, wrote in a June 10 blog post.

“Bar and restaurant prices went down in the pandemic, less so TVs and gym equipment, and ‘stuff’ is now really getting hard to find and to produce,” he added.

There’s reason to be optimistic, according to Bank of America economists. Demand is likely to persist well after supply constraints are addressed. Americans spending today will simply pay a “temporary inflation tax” on some goods, and those deferring their demand will drive a jump in activity once price growth cools, the team led by Ethan Harris said.

“While a lot has been made of the temporary inflation pressures, there is much less discussion of the temporary constraint on real activity. However, you can’t have one without the other,” they added.

In other words, it depends on all of us, and our spending habits, to make sure inflation doesn’t spiral out of control, and we are looking pretty responsible about that in the summer of reopening.

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The massive jobs shortage will keep stronger inflation temporary, Goldman Sachs says

Job fair coronavirus
People seeking employment speak to recruiters at the 25th annual Central Florida Employment Council Job Fair at the Central Florida Fairgrounds.

  • Stronger inflation will soon fade as millions of Americans rush back to work, Goldman Sachs said.
  • Labor supply will rebound as virus fears fade and enhanced unemployment benefits lapse, the bank said.
  • Ending the labor shortage should cool wage inflation, and price inflation will also likely be temporary, Goldman added.
  • See more stories on Insider’s business page.

When it comes to the inflation debate looming over the US economy, Goldman Sachs is on the side of the Federal Reserve and the Biden administration.

Gauges of nationwide price growth are surging at their fastest rate in more than a decade, sparking concerns of an overheating economy ending the recovery early. Republicans and some moderate Democrats have blamed the Fed’s ultra-easy policy stance and unprecedented fiscal stimulus for the inflation overshoot. The Biden administration and the central bank have instead argued the stronger price growth is temporary and fade starting next year.

Goldman economists led by Jan Hatzius reiterated their stance on the Biden side on Monday, citing the latest jobs numbers as supporting evidence. The US added 559,000 nonfarm payrolls in May, missing the median estimate but still a sharp rebound from the dismal April report. Wages shot higher for a second straight month, signaling inflation was picking up in pay and pricing.

The combination of soaring wages and stronger inflation amplified Republicans’ claims of an overheating economy. Yet both pressures should cool in the coming months, Goldman said. For one, the economy is still down roughly 8 million payrolls, and May’s pace of job creation still places a full recovery more than a year into the future. Labor supply, which has been slowing hiring in recent months, should also “increase dramatically” as virus fears dim and enhanced unemployment insurance lapses. As more Americans return to work, wage growth is expected to slow.

Inflation should also cool on the pricing side, according to the bank. Goldman’s trimmed core Personal Consumption Expenditures (PCE) index – which excludes the 30% largest month-over-month price changes – has only risen 1.6% from the year-ago level. By comparison, standard PCE – among the most popular US inflation gauges – notched a 3.6% year-over-year gain in April. Core PCE strips out volatile food and energy prices and is generally viewed as a more reliable measure of long-term inflation.

The disparity reveals the “unprecedented role of outliers” in driving inflation higher, and such an effect should “have only limited effects on longer-term inflation expectations,” the economists said in a note to clients.

“Ultimately, the biggest question in the overheating debate remains whether US output and employment will rise sharply above potential in the next few years,” the team added. “If the answer is yes, then inflation could indeed climb to undesirable levels on a more permanent basis. But our answer continues to be no.”

The forecasts echo sentiments shared recently by central bank officials. Fed Governor Lael Brainard said last week that, as schools reopen and vaccinations continue, it’s likely that the labor shortage will unravel. Job openings sat at record highs by the end of March, and a matching of such huge demand with bolstered supply should drive “further progress on employment,” she added.

More broadly, Goldman expects GDP growth to slow after peaking in the second quarter and normalize as stimulus support lapses. The massive jobs shortfall makes for “significant slack” in the labor market, the bank said, adding that unemployment-based output should reach its maximum potential in late 2023.

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Rent’s big comeback could be the thing that makes stronger inflation permanent

San Francisco apartment tour interior
Manager Justin Sielbach gives a tour of a unit at the 100 Van Ness apartment building on Friday, March 19, 2021 in San Francisco, California.

  • Shelter inflation – which tracks rent prices – is set to boom just as price growth elsewhere cools.
  • The jump could lead inflation to normalize above the Fed’s long-term target of 2%, Morgan Stanley said.
  • Climbing home prices and the end of payment forgiveness will likely drive shelter inflation higher.
  • See more stories on Insider’s business page.

Rent prices tumbled at the start of the pandemic and are only just now on the rise. But where inflation in other pockets of the economy is expected to cool off, rent might just keep climbing.

The Federal Reserve, Biden administration officials, and much of Wall Street see elevated overall inflation eventually moderating as the economy settles into a new normal. The last inflation report, while stronger than expected, showed price growth picking up in services closely linked to reopening. The consensus holds that as such bottlenecks and pent-up demand fade, inflation should moderate, but “shelter inflation,” or rent, could be the big exception to that.

Rent prices are flashing “signs of more persistent inflationary pressures” on the horizon, Morgan Stanley economists said in a Sunday note. Shelter inflation – which covers rent and owners’ equivalent rents – is only just picking up after prices cratered through the pandemic.

Goldman Sachs echoed its peer in a Monday note, saying the “special factors” that held down shelter inflation during the health crisis will soon ease up and drive prices higher.

The shelter-inflation gauge is critical for broader inflation, since it represents “more cyclical, more persistent, and more inertial sources of price pressures,” Morgan Stanley said. And as shelter inflation accelerates through 2021, it could lead broader inflation to normalize above 2%, the team led by Ellen Zentner added.

Shelter inflation
Source: Goldman Sachs

Such an outcome could be worrisome for the Fed. The central bank has said it aims to let inflation run above 2% for some time before looking to pull it back to that threshold for the long term. Inflation settling above that level could force the Fed into an unforeseen corner.

Forecasts suggest soaring shelter inflation could also push inflation expectations permanently higher. Shelter prices are expected to grow 3.8% year-over-year by the end of 2022, Goldman economists said. Inflation will accelerate further and land above 4% in 2023, exceeding the highs of the last economic expansion.

With renters making up nearly one-third of the housing market, such strong inflation could spark intense price concerns. Elevated inflation expectations can drive real inflation higher, as businesses tend to raise prices and workers ask for higher wages when they expect price growth to accelerate.

Skyrocketing home prices could add to the sector’s price pressures, the team of Goldman economists led by Jan Hatzius said. A historic shortage of home inventory and surging demand led home prices to climb at their fastest-ever rate in February, according to the Federal Housing Finance Agency. Although home prices don’t directly affect shelter inflation, Goldman found that 5% to 15% of home-price growth eventually spills over into shelter inflation.

To be sure, shelter inflation counts for just 20% of the core Personal Consumption Expenditures index and 40% of the core Consumer Price Index, two of the most popular broad inflation gauges. It would take considerably strong shelter inflation to pull both indexes to worrying levels.

Still, the component is one to watch as the country reopens, Goldman said. The end of pandemic-era payment forgiveness will likely skew data later this year, as will a tighter labor market. If those factors can fuel stronger shelter inflation expectations, broad inflation could follow.

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Why the sudden spike in inflation won’t last long, according to economists

Michaels store
A shopper browses an aisle in a Michaels, an arts-and-crafts retailer, on March 03, 2021 in Miami, Florida.

  • Many economists expect inflation to cool as the US economy reopens despite April’s big jump.
  • Wednesday data showed prices climbing in March at their fastest rate since 2009.
  • Solving bottlenecks and hiring woes will help businesses catch up with the post-pandemic boom, experts said.
  • See more stories on Insider’s business page.

Reopening-fueled inflation has arrived.

The Consumer Price Index – a key gauge of nationwide price growth – leaped 0.8% in April, trouncing the median estimate of a 0.2% jump. The increase was the largest since 2009. The index that excludes food and energy prices rose 0.9%, and that was the largest one-month surge since 1982.

The data highlights that relaxed lockdown measures, stronger demand, and widespread supply shortages converged to boost price growth. More recent headlines, particularly news of a cyberattack crippling a key oil pipeline, suggest inflation will accelerate further in May.

But for many economists, the unexpectedly large April jump isn’t a reason to worry, and those with the greatest influence over inflation seem unperturbed.

The Federal Reserve has said for months that, while reopening will likely accelerate price growth, the pickup will likely be temporary. In February, Fed Chair Jerome Powell noted the decades-long trend of weaker-than-hoped price growth isn’t likely to be permanently overridden by months of reopening.

“Inflation dynamics do change over time, but they don’t change on a dime,” he said, adding stimulus passed during the pandemic is also unlikely to change the predominant trend.

Fed Vice Chair Richard Clarida echoed his colleague’s remarks after Wednesday’s report. The inflation data was a “surprise,” but inflation should still cool and trend near the Fed’s long-term goal of 2% by next year, he said in remarks to the National Association for Business Economics International Symposium.

“We have pent-up demand in the economy. It may take some time for supply to rise up to demand,” Clarida added.

That imbalance between supply and demand is one of the top culprits behind the April uptick. Factories warned throughout the month that bottlenecks, order delays, and huge backlogs were keeping firms from servicing a boom in consumer demand. Hiring woes also slammed manufacturers, leaving them unable to scale their production.

Addressing backlogs and lifting supply should help inflation cool over the summer, JPMorgan economists said in a recent note. Robust economic growth and continued policy support will drive more Americans into the workforce and bottlenecks, by their nature, will fade as businesses rush to service outsize demand, the team led by Bruce Kasman said.

In a separate note published Wednesday, the bank sais “temporary pressures” were lifting inflation, citing “commodity prices, bottlenecks, and price level normalization.” Once the economy returns to its full potential and shortages are alleviated, price growth should slow, the team added.

Even the nature of the inflation bounce suggests the price growth won’t last. One-third of the 0.8% boost was linked to a record-high increase in used vehicle prices as demand ran up against an inventory shortage. The rest of the increase was largely powered by other reopening-related expenses including airline tickets, recreation, and lodging.

It’s logical to expect demand for travel and leisure to normalize after booming through the reopening. Powell illustrated the limitation in March, noting one “can only go out to dinner once per night.” If long-shuttered businesses continue to drive faster price growth, it’s likely inflation will weaken once the country enters a new normal.

And the April report, while surprising, only shows one month of hot inflation. It would likely take a few more stronger-than-expected readings to worry Fed officials, Edward Moya, senior analyst at Oanda, said Wednesday.

“If the inflation numbers continue to surge at the end of the summer, that might be what could force Powell to pivot that pricing pressures might not be transitory.”

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