The good news is that inflation, as measured by the Consumer Price Index, slowed to near zero in July and August. The bad news is this inflation pause is temporary. The September monthly CPI number will increase to the 0.5% range and move much higher as we approach year-end.
In June, the annual increase in the CPI was 9.1%. With the low monthly numbers in July and August, the annual CPI fell to 8.3%. A close look at the components shows why the inflation rate fell and why it will increase in the fall.
Oil prices in the global market and gas prices in the domestic market dropped dramatically in July and August and have continued their decline more modestly into September. Those prices account for about 30% of the calculation of the CPI.
In August, energy prices fell by more than 10%. Economists expected the inflation rate for other consumer products like food and rent to rise only modestly. Had that happened, the CPI for August would have been negative. Instead, the number was slightly positive. That spooked the investment community, resulting in the largest one day-drop in stock values in more than two years.
The last time the market fell this much was in June 2020 when the effects of the lockdown were being felt.
The slightly positive number for August was a result of other consumer products increasing in price by nearly 0.7%. That means if energy prices are excluded from the CPI, the annual inflation rate would have been nearly 9%. In the fall, energy prices will start rising and other essentials like food and rent will continue their rapid price increase. That is likely to push the annual inflation rate into double digit-levels by year end or early next year.
The summer decrease in the global price of oil was mostly due to the decrease in worldwide demand. That was because the two largest economies in the world, the U.S. and China, were essentially in recession. The U.S. hasn’t seen economic growth since the end of last year. China reports modest growth, but it is generally well known that the communist nation overstates its growth.
That means if China says growth is very slow, it is most likely negative.
Many of the other countries in the world are also dealing with slow growth mostly brought about by inflation, which means consumers are spending more on necessities, leaving less to spend on non-necessities.
This decrease in demand has stabilized and likely won’t fall further. At the same time, OPEC is working to raise the price of oil, as it believes the price of a barrel of oil should be in the $100 range, whereas today, it is less than $90.
Domestically, the Biden administration has been releasing one million barrels of oil per day from the strategic reserve since March. It will stop doing that by the end of September, meaning domestic market supply will fall by one million barrels daily. That will put upward pressure on price.
And as Americans return to work from their summer vacation, demand for gasoline will increase. That gives yet another reason for oil and gas prices to rise.
The Federal Reserve has finally committed to its goal of price stability. This goal was completely ignored all of 2021 and into 2022. Even though inflation was seen as a clear problem as early as March 2021, the Fed followed a shockingly irresponsible monetary policy as it continued to vastly increase the money and keep interest rates near zero until March of this year.
Working against the Fed’s effort is Biden’s fiscal policy where he continues to increase government spending. This is purely inflationary. The spending, as seen in the “Inflation Reduction Act,” will add excess demand to an economy already suffering from too much demand.
We are now seeing the disastrous effects of embedded inflation. People on fixed incomes and lower-income Americans struggle to pay for basic necessities. Labor is demanding larger wage increases so they can “keep up” with prices. This leads to a nasty wage-price spiral. And consumers are developing an inflation mentality. That means instead of resisting price increases they believe they had better pay the higher price today before the price gets higher tomorrow.
The longer this inflation problem lasts, the tougher it will be to stop it.