Yesterday, the Bureau of Labor Statistics released the Consumer Price Index for May 2022. The Consumer Price Index (CPI) tracks inflation by measuring the average change over time in prices that urban consumers pay for a market basket of consumer goods and services. The headline number showed that the all items index increased 8.6 percent over the past year. The core CPI, which excludes more volatile food and energy prices, rose 6 percent from a year ago as seen in Figure 1.
A hot topic over the past two months is if inflation has peaked and will start to return to more normal levels. The inflation numbers from yesterday’s release surpassed the Dow Jones inflation estimate and meant that inflation had not already peaked in March and is unlikely to quickly return to lower levels. However, we can examine this report to think about the likely path of inflation going forward.
The negative news from this report is that inflation has become more broad-based with increases in the prices for shelter, gasoline, and food contributing to the rising price level. The energy price index rose 34.6 percent over the last year, and within that category, fuel oil prices rose 106.7 percent from a year ago. Rising energy and transportation costs has resulted in price increases in industries for which they are a major input, such as food. Food costs increased 10.1 percent from a year ago. Additionally, housing prices are rising at the fastest rate since 1991 with a year over year increase of 5.5 percent. The fear is that broad based price increases mean that the process of inflation becomes more entrenched in individual expectations, making it more difficult to combat in the coming months.
However, a case can still be made that inflation is at a peak and could start to decline in the coming months. In this view, the inflation that the U.S. experienced in 2021was largely driven both by shifts in consumer spending behavior during the pandemic towards goods and the large stimulus checks from the government that increased the money supply. Initially, the U.S. saw inflation in the goods sector much higher than that in the services sectors as people changed their spending habits from services to goods during the lockdown. Earlier predictions assumed that as consumers resumed pre-pandemic modes of spending and re-entered the labor force, inflation would recede. With a normalization of spending patterns, we are now seeing price increases in services while prices are still high in for goods. It is possible that declines in goods prices as retailers signal that they need to reduce inventories will help moderate the overall price increases in the coming months.
A second argument supporting the view that inflation may be at its peak is that the inflation that we now face has been driven by a number of extraordinary events including labor force shocks driven by the pandemic, recent lockdowns in China that continue to reduce global production and trade, and the war in Ukraine that has generated large increases in the price of both food and energy. Indeed, core inflation (removing food and energy prices) has declined for two consecutive months and we can hope that that trend will continue in the future.
