Inflation Is Not "Reaccelerating", But It Isn't Obviously Heading Back to 2%, Either
After a period of temporarily slower price increases, inflation in the first few months of 2024 seems more consistent with the rest of the economic data. Plus: a dive into car insurance pricing.
The U.S. Consumer Price Index (CPI) rose by 2% a year from January 2017-February 2020. During the peak of the inflation spike, in February-June 2022, the CPI rose at a yearly rate of 11.4%. By the second half of 2023, CPI inflation had slowed to 2.5% a year. So far this year, CPI inflation has been running at 4.6% annualized. That is the fastest pace of inflation since the end of 2022.
Excuses abound1, but the simplest explanation remains the most plausible: the underlying inflationary trend is a function of income growth vs. output growth, and aggregate income is still rising a couple of percentage points faster than before the pandemic. If nominal incomes are rising 6-7% a year—even after job market churn has normalized—then spending is going to be rising by a comparable amount. And while trend output may have accelerated from ~2% to ~3% a year, it probably has not accelerated to 4-5% a year, which would imply that inflation will also tend to be somewhat faster than before.
From this perspective, the apparent slowdown in inflation in CPI inflation in 2023H2 was an illusion, similar to other periods when actual inflation temporarily deviates from its underlying trend. While the recent uptick could represent a fundamental “re-acceleration”, the likelier story is that it is just another temporary deviation—but in the opposite direction.
Officials do not need necessarily need to do anything about this. The current combination of robust growth, high employment, relatively tame inflation, and mid-single-digit yields on safe assets represents the best set of macroeconomic and financial outcomes for the U.S. in decades. But this also means that there is little reason for monetary policymakers to lower interest rates, despite what (some of) their models may be telling them. That helps explain the dramatic shift in market pricing since the start of the year.
