Inflation May Continue, But There is Hope

Published in The Zeitgeist

Inflation has been a prevalent topic in the U.S this past year. Photo: Patrick Graham/centsai.com

In the past 12 months, the United States has experienced rampant inflation, as evidenced by the Consumer Price Index, which indicates a significant increase in the cost of everyday necessities. Medical services, transportation, and housing expenses, including rent and house prices, have all seen inflation. However, the most alarming figures emerge from raw resources, food products, and energy. Food items like fruits and grains have seen inflation rates around 5 percent, while staples like meat and fish have experienced inflation exceeding 10 percent. Gasoline, electricity, and energy consumption have surged by approximately 40-50 percent, while raw materials such as metals and wood have nearly doubled in price.

The impact of 2021's inflation has been felt by everyone, from soaring gas prices to difficulties affording essential food, shelter, and energy. So, what is driving this inflation?

In a simplified explanation of complex economic dynamics, the loosening of COVID-19 restrictions, increased vaccination rates, and the return of workers to pre-pandemic job conditions are major contributors. During the COVID-19 pandemic, the supply of money in the economy plummeted to record lows, prompting individuals to adopt more conservative financial habits due to uncertain futures. Many prioritized spending on necessities like food, clothing, and shelter while cutting back on discretionary expenses such as luxury items and entertainment. Economist David Henderson has characterized the pandemic as the most significant instance of "money hoarding" in the 21st century.

This picture shows inflation since 1989. We are experiencing one of its all-time peaks. Graph: Inflationdata.com

Everything changed in early 2021 with the introduction of vaccines to combat the COVID-19 pandemic. As infection rates gradually declined, restrictions were relaxed, leading to the reopening of schools, theaters, malls, and other public spaces. Millions of people emerged from their homes and began spending money on more than just essentials, injecting billions of dollars into the United States economy virtually overnight. This sudden surge in demand for goods and services resulted in skyrocketing prices.

Now, it's time for everyone's favorite part of economics articles, and economists' least favorite: predictions. Given the current circumstances, will inflation stabilise? Probably not. It's likely that 2022 will see continued inflation. We are still emerging from a two-year pandemic period during which the money supply was severely constrained. As people's spending continues to increase, inflation is expected to persist.

This graph represents the Velocity of the M2 stock. It is generally a good indicator of how much action is occurring within the economy. As you can see, COVID came with a steep drop in purchases. Graph: Fred Economic Data

However, there is light at the end of the tunnel. There is hope, not necessarily in the form of decreasing inflation, but rather in the prospect of economic growth. If the growth of Real Gross Domestic Product (GDP) continues to outpace inflation, consumers may not feel the impact of further inflation. Increased spending and economic activity are expected to contribute to this trend. As more goods are purchased, more people will regain their employment, leading to increased processing and manufacturing activities. In theory, this should propel the economy out of the COVID-induced recession and back to pre-pandemic growth levels. While this transition has not yet occurred due to the recent surge in spending, most economists anticipate it will happen in the near future.

However, there is a significant caveat to this optimism surrounding Real GDP growth: the policies of the Biden Administration. Several changes implemented by the administration have the potential to impede post-COVID economic growth. For instance, the addition of $300 to weekly unemployment benefits, amounting to over $1.9 trillion in the coming months, may discourage millions of working-class individuals from seeking or returning to their pre-pandemic jobs. Although this policy originated from the Trump era's CARES Act, the continuation of such benefits under the Biden Administration exacerbates the issue. Additionally, the administration has introduced a record number of regulations, ranging from restrictions on showerhead water usage to increased oversight of U.S. bank accounts exceeding $10,000. These regulations hinder businesses' ability to contribute to economic growth and control consumer prices. As a result, Biden's policies pose a risk to the economy's ability to rebound effectively.

Despite these challenges, I, along with most experts, predict that the situation will improve in the coming months. While Biden's policies may have a negative impact on growth, they have not yet reached a point where they can entirely offset the influx of resources companies are receiving. Therefore, prices will probably begin to stabilize early next year, signaling better days ahead.