What signal should we be taking from current inflation for future inflation? The answer: some signal, but not a lot. To be sure, inflation is running high (figure 1); and, after excluding the typically volatile categories of food and energy prices, is running higher than it has been in decades. But because the factors that are leading to inflation are pandemic-related and therefore temporary, the current trend does not forecast the future.
To examine whether this short-term run up in inflation points to higher inflation in the years ahead, I look at the factors that appear to be contributing. I find that the strength and composition of consumer demand for goods since the pandemic began as well as supply constraints caused by the pandemic are the sources of the current spike. The clearly temporary nature of those factors suggests we should not extrapolate recent inflation pressure into the future.
Goods inflation has indeed been extraordinarily high.
The identifiable factors behind goods inflation—a surge in consumer demand and lagging supply—are primarily pandemic-related.
Increasing vaccination rates and decreasing the health risks should rebalance spending patterns, leading to a decrease in demand for goods and an increase in demand for services.
If increases in the supply of services lags behind increases in demand for services, we would see new and worrying inflation risks arise.
Inflation as of October 2021
Figure 1 (above) shows inflation from 1969 to 2021, both by the consumer price index (CPI) and by the personal consumption expenditure (PCE) deflator. Some observers have tried to draw parallels between the current episode in inflation and the 1970s; this is incorrect. While inflation has increased relative to recent years, inflation is significantly below the levels seen in the 1970s.
As measured by the CPI, the annual rate of inflation from October 2020 to October 2021 was 6.2 percent. As measured by the PCE deflator, the annual rate of inflation from September 2020 to September 2021 (the most recent available data) was 4.4 percent. Some of those price increases reflect a bounce back from the unusually low level of prices in the first part of the pandemic. For example, if the CPI had grown at a rate close to the Federal Reserve’s target from the first month of the pandemic through October 2020, the CPI annual inflation rate over the last year would have been 5.1 percent. That rate is still quite high, but a percentage point lower than the actual annual rate.