The Consumer Price Index (CPI) for July was released recently, and the financial press reported that inflation had cooled. However, a closer look at the data reveals that inflation is actually up from June to July. This highlights a common trend in reporting, where headlines focus on month-to-month changes when they are down, but highlight the 12-month trend when they are up. This selective reporting can create a misleading picture of the true state of inflation.
One of the main drivers of inflation is housing, but the CPI fails to capture the full extent of housing price increases. It relies on a statistic called Owners Equivalent Rent, which is a black-box measure that bypasses actual housing price data. This is just one of many problems with the CPI that have been discussed extensively. Despite its limitations, the CPI still provides some insights into the state of the economy.
However, these official data points often contradict the experiences of everyday Americans. A recent poll commissioned by CNN found that nearly 40 percent of Americans are struggling to pay their bills, up from 28 percent just three years ago. The cost of living and paying bills is the number one issue for two-thirds of respondents. In fact, the average American is now spending nearly $1,000 more per month on living expenses compared to three years ago. This suggests a significant decline in real household income, despite claims from the Bureau of Labor Statistics that real output is rising.
The poll also revealed that a third of Americans have had to take on additional jobs to make ends meet. This has disproportionately affected Latinos, black Americans, and those under the age of 45. Furthermore, nearly 70 percent of respondents reported cutting back on entertainment, changing their grocery buying habits, and giving up extras like vacations and trips. Three in five said they have reduced their driving, and two-thirds are relying on high-interest credit cards to pay their bills. These trends persist despite the supposed taming of inflation.
Inflation has been a persistent problem for years, but many people have been in denial or have believed that it is a temporary trend. However, after three years of price increases, the hard realities of accounting are starting to hit everyone. This is having a cascading effect on every sector, as consumers cut back on extras. For example, a local newspaper in New England that relied on advertising from arts venues is now facing a financial crisis. With fewer arts institutions reopening after lockdowns, there is less advertising revenue, leading to the inevitable closure of the newspaper and the loss of jobs.
Large companies like Starbucks, Home Depot, and McDonald’s are also posting dreary sales outlooks because consumers are tapped out. Consumer sentiment has fallen by a third since its January 2020 highs, indicating a great deal of fear and uncertainty among consumers and producers alike. This is a rude awakening for many.
The root of the problem lies in the way government policies have handled economic downturns over the past 45 years. Rather than allowing recessions to cleanse the system and prepare for a robust recovery, policymakers have relied on adding liquidity to the system to prevent too much damage. This approach was most evident in the 2008 financial crisis when the Federal Reserve bought up failing mortgage securities and kept them in its vaults. This decision, along with near-zero interest rates, led to the expansion of the housing bubble into a corporate and financial bubble. The underlying decay in capital structures went unnoticed for years.
Now, the Federal Reserve’s balance sheet looks preposterous, and the monetary base is at an all-time high. The Fed’s options to deal with a cascading crisis are limited, as raising rates could unravel the world’s most popular carry trade. At some point, we will need to recognize the wisdom of economic downturns. They serve a function by cleansing capital markets, encouraging debt reduction and savings, and eliminating unviable corporate projects. Austerity may be our future one way or another.
In conclusion, while official data may paint a rosy picture of the economy, the experiences of everyday Americans tell a different story. Inflation is a significant concern, with many struggling to pay their bills and cutting back on expenses. The root of the problem lies in the way economic downturns have been handled in the past, with policymakers relying on liquidity injections rather than allowing for a natural correction. As we navigate the challenges ahead, it is crucial to acknowledge the limitations of official data and the need for a more comprehensive and realistic understanding of the economy.
