The headline inflation rate – specifically, the Consumer Price Index (CPI) – has declined on a year-over-year basis from a peak of 8.9% in June of 2022 to 3.2% as of October, the latest reading. Last June’s inflation level was the highest since 1981.
The decline has led many to proclaim that prices are now falling. Yet, at the same time, most U.S. households continue to feel the strain of higher prices. What’s the real story?
Before we explain, it might be useful to distinguish between inflation, disinflation, and deflation. Inflation simply means that prices are rising. Disinflation means that prices are rising, but at a decreasing rate. Deflation means that prices are falling.
So, what we’re experiencing right now is disinflation: prices are still rising, but at a decreasing rate compared to a year ago. And that’s an important point. Those who would have us believe that prices are falling are effectively claiming that a lower inflation rate means that deflation is taking place, but that’s not true. The year-over-year change in CPI would have to be negative for deflation to be occurring (i.e., for prices to be falling). It should be noted that prices are falling in some categories, such as airfares – though you wouldn’t know it if you’ve purchased a plane ticket recently – but overall, and in most categories, prices continue to rise.
That’s one of the reasons households continue to feel the strain of inflation, despite the decline in the overall rate of price increases (i.e., disinflation). That 3.2% increase over last year’s prices is added on top of last year’s 8.9% increase over the previous year’s prices. In other words, while prices in October were “only” 3.2% higher than in October 2022, they were 8.9% higher than in October 2021, and 18.2% higher than in October 2020.
That cumulative impact means that the average U.S. household spent $709 more in July of this year, for example, than two years ago. At the same time, real earnings are at about 2019 levels. So households are having to spend more of their incomes to pay for the same things they’ve always purchased.
Another reason that households are feeling the pinch of inflation is that while prices are lower, or at least moderating, for a few categories, they’re much higher than the year-over-year increase in CPI would suggest in many others. And those others are necessities, or at least staples. For example, while food prices at home are up 2.1%, food away from home is up 5.4%. And within the food at home category, steak is up more than 10%, sugar is up nearly 9%, and baby food is up more than 8%. Housing costs are also up more than the overall inflation rate, with rents up more than 7%. And auto insurance is up nearly 20%.
Inflation is just one of the headwinds facing the U.S. economy. And as households have to spend more of their incomes on the same goods and services they were buying two years ago, it’s a key reason why the Personal Saving Rate has fallen from 5.2% of disposable income in May to 3.8% in October – and that helps explain why many credit unions’ deposit growth has been negative during that period. Unfortunately, current tight liquidity conditions may persist as a result until disinflation continues to the point where the headline inflation rate reaches the Fed’s target of 2% year-over-year.