Merriam Webster defines the word transitory as “of brief duration, temporary” . Every guest that appears on TV to be interviewed by leading business networks provides extensive commentary regarding inflation, sometimes using the word “transitory” to explain market attention devoted towards inflation. Inflation, in theory, is the economic principle that explains the rise in prices over some time. Depending on the duration, experts use different historical examples such as Zimbabwe 2009, U.S. Great Inflation 1970, or Hungary 1946 to illustrate the repercussions of rampant inflation or hyperinflation. I wanted to use the term “transitory” as well, but from the perspective of an animal introduced earlier, the pre-historic crocodile, and the definition offered by the Department of Environment and Science, Queensland Government of Australia. From the six Crocodile Management Zones, Zone D is called the Transitory Zone. “A ‘transitory zone’ is suited to areas where crocodiles are often seen passing through but are not core habitat, such as beaches. Crocodiles 2 metres or greater in length and any crocodiles displaying dangerous behaviour are targeted for removal” . Concerning the current inflation, it is apt to weave the definition provided by the Queensland Government of Australia since the resulting chart looks like an angled crocodile’s mouth parked at a riverbank.
Like the Queensland Government, the Federal Open Market Committee (FOMC) “judges that inflation of 2 percent over the longer run, as measured by the annual change in the price index for personal consumption expenditures, is most consistent with the Federal Reserve’s mandate for maximum employment and price stability” . The Federal Reserve Act of 1913 provides agency to the Federal Reserve to apply appropriate monetary policy measures such as Discount Rate adjustment, Reserve Requirement, Open Market Operations, and Interest on Reserves to “target for removal” or curtail the dominance of inflation in society and maintain its mandate of price stability. In a press conference of April 28, 2021, Federal Reserve Chairman Jerome Powell said, “we are also likely to see upward pressure on prices from the rebound in spending as the economy continues to reopen, particularly if supply bottlenecks limit how quickly production can respond in the near term. However, these one-time increases in prices are likely to have only transitory effects on inflation” . Chairman Powell illustrates clarity into a sometimes opaque situation by accurately describing the current market structure that is still recovering from the pandemic.
Rewinding to the word transitory, a quick Google Trends Search from April 01, 2021, reflects a spike leading up to the Consumer Price Index release. On May 12, 2021, the Bureau of Labor Statistics released Consumer Price Index for April 2021, in which Consumer Price Index increased 0.8, with Food rising 0.4% and Energy decreasing by 0.1% compared to March 2021. Compared to March 2021, the index for Trucks and Car rentals increased by 16.2%, Used Cars and Trucks increased by 10%, Airline Fares increased by 10.2%, and Lodging Away from Home increased 7.6%. Year-over-year CPI for Car & Truck Rentals was up 82.2%, Used Cars & Trucks was up 21.0%, Men’s pants & shorts up 10.4%, Airline & Ship Fares up 9.6% & 7.7%, and, Jewelry & Watches up 9.5%.
The argument presented by Chairman Powell is paralleled in the percentage increases of the respective categories since they reflect spending of a reopening economy. This essay does not attempt to make a qualified judgment regarding the nature or characteristics of inflation. Instead, it seeks to understand inflation from a price, expenditures, and savings perspective. A consequence of rising inflation is higher prices, which in theory would encourage consumers to spend more and lock in lower prices now. For example, if Albert wanted to buy a washing machine and learned that it was $550 in 3 months instead of the $500 that it currently is, Albert would theoretically look to secure the device at a lower price. Instead, Albert chose to refer to the Consumer Price Index for All Urban Consumers: All Items in the U.S. City Average and learned that the further back he traveled, the lower the relative price would be.
The Consumer Price Index for All Urban Consumers: All Items in the U.S. City Average, plotted to start Jan 2000= 100, presents the following graph, where the index has risen to 157.6 as of April 2021. Compared to the 2008 Financial Crisis, the Consumer Price Index did not suffer as much of a dip in the 2020 pandemic-driven economic crisis. Moreover, a line with a constant slope extending out of July 2008 would highlight that the Consumer Price Index is currently trending below the hypothetical line. Meaning, if the 2008 Financial Crisis never occurred, the current prices experienced by consumers are lower than what could have been.
Compared to all other economic concepts, inflation tends to be the one that attracts fanfare and immediate attention. Any price increase is misdirected or automatically credited to inflation. A comment made by Dr. Thomas Juster and Dr. Paul Wachtel of the National Bureau of Economic Research in 1972 in A Note on Inflation and Saving Rate bears an anecdote in explaining the consumer interaction side of inflation. “Because people do not generally anticipate money income increases to the same extent as they anticipate price increases, a rapid rate of inflation is taken to be synonymous with a decline in expected real income by the majority of consumers” . A key distinction identified is the perception of inflation compared to income, where an increase in inflation signals consumers to think that their ability to ascertain appropriate income to afford is diminished. The argument provided by Dr. Juster and Dr. Wachtel allows explaining the sensationalism surrounding inflation and how much of an attractive topic it is for the 24-hour news cycle.
Take the Consumer Price Index and Personal Consumption Expenditures data and plot it since Q1 2000 to retrieve the following graph. The two diverging lines highlight different shock patterns from different periods of recession. Chart.
Adding Real Disposable Personal Income to the equation presents the following chart. There are more synergies between Disposable Personal Income and the Consumer Price Index until Q4 2014. The Real Disposable Personal Income trendline separates and creates room away from the Consumer Price Index after Q4 2014 with an exponential rise in Q2 2020 when expenditures were low. Chart.
The crocodile at the bank is visible when the Velocity of the M1 Money Stock trendline is added to the chart from Q1 2000. The velocity of money is defined as “the number of times one dollar is spent to buy goods and services per unit of time,” and M1 Money Stock refers to notes & coins, demand deposits, checking account transactions, and other liquid deposits. Ever since the 2008 Financial Crisis, the Velocity of M1 Money Stock has underperformed compared to the Consumer Price Index, Personal Consumption Expenditures, and Real Disposable Personal Income. Chart.
The decline of circulation in transactions between consumers and markets is evident if you add one more line to the equation- Personal Saving Rate. Before 2008, the Personal Saving Rate was at times underperforming all the other trendlines. After 2010, the Personal Saving Rate line has fared between the Personal Consumption Expenditures line and Consumer Price Index, with 2020 seeing the most significant incline in Personal Saving Rate. Overlooked can be the intersection in Q4 2008 between Velocity of M1 Money Stock and the Personal Saving Rate, before which it was trending below the Velocity of M1 Money Stock trendline. Since Q4 2008, Personal Saving Rate has outperformed the Velocity of the M1 trendline. Chart.
The uneven demand scenario of 2020 caused various disruptions and stratification between different spending categories. In Pandemic Prices: Assessing Inflation in the Months and Years Ahead, Dr. Jared Bernstein and Mr. Ernie Tedeschi, members of the White House Council of Economic Advisors, said, “in the next several months we expect measured inflation to increase somewhat, primarily due to three different temporary factors: base effects, supply chain disruptions, and pent-up demand, especially for services”. All three reasons support the uniqueness of the current moment, with supply chain disruption and pent-up demand having a link to labor and wage issues.
In the end, an indicator used to measure inflation is prices. Different inputs combine to produce a reasonable cost for an output determined by the elastic and sometimes inelastic relationship called supply and demand. The charts above provide a case where doomsday-like scenarios are illustrated regarding inflation – only to color scenes of sensationalism and short-sightedness. Yes, the crocodile is perched on the bank in an angled position asserting dominance, with a watchful agency mandated with observing and predicting its pervasiveness unlike other ecosystems. Inflation is not a marketplace bug; it is a feature that reflects the interaction between supply and demand.
What would be interesting to watch is if the Velocity of M1 Money Stock will trend closer to the Consumer Price Index and Real Disposable Income lines since the current separation is considerable and supports an inclination towards saving more than spending. Just how much of those savings will be depleted in the imminent reopening and affect M1 Velocity, or the Keynesian Paradox of Thrift reverse, will be interesting to follow.