Is High Inflation the New Normal?

With inflation running above 7 percent, we are experiencing the strongest price pressures in nearly 40 years.


During the second half of 2021, economists debated whether inflation in the U.S. would be "permanent" or "transitory." Inflation hawks argued that massive fiscal and monetary stimulus was the obvious cause of price hikes. Inflation doves replied that rising prices were primarily due to pandemic-related supply chain disruptions. In early December, the debate suddenly shifted: Federal Reserve Chairman Jerome Powell told legislators, "it's probably time to retire that word"—transitory—and the hawks took a victory lap.

It is easy to see why Powell was concerned. With inflation running at 7 percent, we are experiencing the strongest price pressures in nearly 40 years. But inflation is tough to fully explain and even harder to predict.

Partisans in the inflation battle frequently fail to acknowledge that their stories are not mutually exclusive. If public policy boosts demand while production bottlenecks hamper supply, there is no question about what happens to prices—up they go. Digging further into the debate provides additional reasons to eschew confident assertions.

Orthodox economic theory says fiscal and monetary stimulus can increase total spending, or what economists call aggregate demand. We've certainly had lots of both. The American Rescue Plan Act, signed into law by President Joe Biden on March 11, 2021, had a top-line figure of $1.9 trillion. Expansionary fiscal policy, meaning increased government spending to boost output and employment, requires deficit spending, because financing outlays with taxes blunts the effects on aggregate demand.

At the same time, the Fed's balance sheet has surged. Total assets held by the central bank grew from roughly $4 trillion in early 2020 to $8.9 trillion as of late January. Driven by these asset purchases, the M2 money supply—cash, checking accounts, and "near monies," such as savings accounts and money market mutual funds—grew from $15.5 trillion in early 2020 to more than $21.6 trillion today. So Americans definitely have more money to spend.

It is also true that fiscal and monetary expansion don't boost supply of the goods people might want to buy with that money. Widespread COVID-prevention policies threw a wrench into the economy's gears. Transportation gridlocks on sea, on land, and in the air make production and distribution harder. Major inputs, such as semiconductors, are frustratingly scarce. There are also frictions in labor markets, such as recently boosted unemployment benefits and union disputes over vaccine mandates. The combined effect is rising prices, independent from demand considerations.

A supply-and-demand double whammy could explain inflation. But both stories have problems.

On the demand side, all that stimulus might not be as expansionary as it appears. "We know from experience that budget deficits, by themselves, are not very inflationary," writes Scott Sumner, the doyen of the market monetarist school, in his new book The Money Illusion (University of Chicago Press). Sumner cites the absence of major inflation during the Reagan and Obama administrations, both of which presided over growing budget deficits.

Nor was money especially loose during the early stages of the pandemic. As the money supply ballooned, the velocity of money—its average rate of turnover—cratered. People held on to that extra money. According to data from the Federal Reserve Bank of St. Louis, money demand increased by 22.5 percent from the fourth quarter of 2019 to the first quarter of 2020. Velocity remained depressed as the money supply continued growing. Since supply outpaced demand, monetary conditions did loosen. But Fed policy did not open the liquidity floodgates, as many initially supposed.

As for the supply of goods, congested production and slowed distribution clearly are making inflation worse. But this explanation is prone to just-so stories. Supply conditions vary greatly by sector. Aggregate data, constructed to get a fuller picture, is not as clean on the supply side as on the demand side.

We also have to consider politics. Behind the inflexible insistence that supply problems matter most lies a possibly partisan reluctance to indict policy makers and technocrats.

The doves are down, but they are not out for the count. Market inflation expectations peaked in mid-November. As of January, bond traders forecast 2.8 percent per year for the next five years, meaning they are not convinced runaway inflation is our destiny. "Predictions are hard, especially about the future," a wise man once said. Much will depend on how fast supply constraints loosen and Fed policy tightens.

NEXT: Brickbat: Asset Forfeiture

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  1. Just remember, when prices go up it isn't Biden's fault because the President has no control over that. And when prices go down it's totally due to Biden's masterful handling because Presidents run the economy.

  2. According to Reason's leading economics expert, right now we're in the best economy in US history. Rig count is up. Warren Buffett is getting richer. What more could you want?

    The economy is so wonderful, in fact, that the only way to criticize it is to lie. That's what all this "inflation" talk is — disinformation spread by to trick voters into disapproving of Biden. Don't fall for it!


  3. "With inflation running at 7 percent, we are experiencing the strongest price pressures in nearly 40 years."

    40 years ago the government changed the way inflation was calculated to make it seem lower. If inflation is calculated the same way it was before that change, the rate would be over 15%. That's the highest it's been since World War One.

  4. "With inflation running at 7 percent, we are experiencing the strongest price pressures in nearly 40 years."

    February CPI was 7.9% on it's way to 10%. You're behind.

  5. As of January, bond traders forecast 2.8 percent per year for the next five years, meaning they are not convinced runaway inflation is our destiny.

    That's a total of 14.8% (compounded) over the next 5 years. With inflation currently at 7.9%, who in their right mind thinks inflation is going to come down that quickly? Or are the traders expecting deflation?

    1. Which is why they are floating the idea of price controls. After all, there is an election coming up. Of course in a global market, that only affects what US companies can charge, not their costs on imported goods. So that means US businesses are headed for a convergence of costs and prices [aka no profits], meaning they curtail production, people get laid off, and the economy tanks faster than it was before.

      But at least then Democrats will have gotten through elections and can blame the economic disaster they started on any Republican victories. Just recycling bad ideas that have universally failed before.

  6. Paul Volcker where are you?

  7. As-if history didn't have a running record of high inflation following massive fiat money supply stuffing in communist countries.

    You can't "print" labor or resources. You can only STEAL everyone's *EARNED* wealth by storing its value in 'fiat' that can be purposely manipulated though by Power-Mad Regime; Essentially turning everyone's work for the USD into a Slave of the State + the expansive taxes....

    35% of the USA is flat-out communist ("federally owned" land) and 50% of the GDP is communist (see taxes on a loaf of bread) and those metrics were shown a decade ago. Just look at how well massive communism has worked; sexism, racism, wealth-inequality ALL off the hooks running wild.

    I wish leftards had a brain and could see the damage they've done and take a visit down history lane and understand the USA was founded specifically as the ONLY NATION who's principles were based on Individual Liberty and Justice for all NOT [WE] mobs of dictation and communist living.

    Leftards aren't here because they really have a notion that communist living would be better or they would MOVE... There's plenty of communist countries set and ready to take them.

    No, No; Communists are here for their STOLEN lunches of self-entitlement that drains and breaks the USA like criminals destroy everything out of selfish greed.

  8. Well Reason wanted this! They hated mean tweets so they got lots of inflation.

  9. Fuck you, Reason/Cato

  10. It's like the 70s all over again. Including the stupid ass excuses. "It's corporate greed!", "It's unions!", "It's OPEC", etc. The only new one is "It's grocery stores and their obscene profits!"

    Democrats are going to lose big this year because if it, and will probably lose the White House in 2024 if they don't get their shit together. But that don't make the Republicans blameless. The wild spending and crazy Fed policy that led to this started before Biden even took office. That's right, a Republican administration is also to blame. Both sides is both sides. Neither side gives a shit about spending. Neither side gives a shit about the deficit. Neither side gives a shit about monetary policy, so long as the boom keeps booming.

    Any politician who can't reasonably articulate the cause of inflation won't get my vote.

    Inflation is everywhere and always a monetary problem. Too much money is chasing too few goods. It's not grocery stores, or OPEC, or unions, or even corporate greed. The idea that greed only started a year and a half ago is beyond silly. The cause is too much money. It's the Fed with it's policies of keeping interest rates low, and congress injecting trillions of new spending into the economy. It's more complicated than the 70s era when paper bill were physically printed, but it still works the same. More money is being created than the economy is producing goods and services to buy. It's the monetary policy coupled with out of control spending.

    The best analogy is that the Fed keeps sending new checkbooks to Congress, who keeps writing bad checks. And everyone is so in love with Congress they don't have the heart to refuse its checks. But eventually they will and then we're all fucked.

  11. With inflation running above 7 percent, we are experiencing the strongest price pressures in nearly 40 years.

    And a President that makes Carter look like a damn legend.

    1. Not quite....I'd say Carter and Biden are running neck and neck for most inept POTUS eva.

  12. now do it in 1982 numbers.

  13. Remember the last decade or so when I've been saying the government is going to inflate away the debt?

    It's still true. Plan accordingly.

    1. Absolutely. Expect Democrats to start using "inflation factored in" calculations to make it look like they've decreased something. Biden is already doing it by claiming a deficit reduction based on the stupid-level spending of last year. A lot like the 600# man claiming victory because he only gained 50# this year instead of the 100# he gained last year.

  14. If public policy boosts demand while and production bottlenecks hamper supply, there is no question about what happens to prices—up they go.

  15. Based on reading the democrat party platform, it is the normal during democratic administrations.
    Remember that is we have elections in November.

    1. is = if

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