Trying to make sense of inflation? So is everybody else

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For a lot of smart people, understanding the way inflation works isn’t easier than COVID-19.

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And when we hear, as we did yesterday, the man who is widely regarded as one of the world’s greatest inflation experts didn’t see the current round of price increases even after the pandemic hit, which smacks our egos. can strengthen. But it is not completely reassuring that the world economy is in safe hands.

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With predictions that the latest US inflation figures, later this morning, could reach a shocking 7.1 percent – ​​a level that was unheard of in young people’s lives – it would be good to know there is nothing to worry about.

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An American financial commentary offered a simple-tongued guide how to worry about inflation, which may not even be entirely convincing.

Chased by a bear?

But like any threat, from being chased by a bear to fighting a new pandemic variant, understanding a little more about what’s going on doesn’t necessarily solve the problem. However, it can help you cope.

The fact that the world’s most influential central banker, Federal Reserve Chairman Jerome Powell, did not see the current extraordinary level of inflation in his crystal ball, is an important piece of information. This fact was taken home by Tuesday’s Senate hearing confirming his reappointment, where Powell was asked how he could avoid a similar surprise in the future.

“This is a unique situation,” he replied. “We don’t have 10 pandemics to look back and say these are common features when the global economy shuts down to deal with a global pandemic. It was all brand new.”

If Powell and his highly paid experts didn’t see it coming, don’t kick yourself if you didn’t.

It’s also a reminder of how markets fight and squabble over every little detail, not only about what’s going to happen next, but what Powell and the Federal Reserve are going to do about it. are. No one can be sure.

My conversations with some bright young people over the recent holidays were a reminder of how many concepts of inflation can be unfamiliar to them, at least partly because they’ve never really thought about it in their lifetime. fell.

The term inflation can also be confusing. For an older generation who saw it in the 1970s and ’80s, inflation is likely to have a clear intuitive sense.

house price not included

Many Canadians understand what is happening once the price of homes rises. As an asset and not as a consumer good, however, they are not directly included in the inflation figure.

The act of inflating, such as the act of blowing up a balloon, can give a false impression.

Inflation is like blowing air out of a balloon in some ways: The savings in your bank account have declined in value. In other words, a measure of inflation is that if you, as a Canadian, put a hundred dollars in an envelope last January and you take it out to spend now, it’s only $95 worth of stuff. Buy what you could buy. one year ago.

In other words, we’re not talking about inflating like a money balloon – the prices are. During inflation, the average price of most commodities rises, some slightly higher and some slightly lower, because the value of money is falling.

look | What is the reason for inflation?

The methods of measuring inflation can also be confusing.

The number that people will talk about on Wednesday will be the US Consumer Price Index, or CPI. It measures how much it cost in the previous December to buy a certain set of consumer products and services and compares it with how much it cost to buy the same goods and services in the previous month.

Sometimes it’s called “headline” inflation or headline CPI, because it’s the number you’ll hear on the news, perhaps because it’s more dramatic, but it’s also the real effect of rising prices on household costs in that particular month. .

But central banks, including the Bank of Canada, are more concerned about a different number altogether called “core” inflation, which is essentially a measure of inflation that sweeps prices across the map, such as cold and gasoline. Food prices in Prices almost anytime.

don’t cheat

It can also be misleading that despite a very integrated North American economy, inflation in Canada has always seemed much lower than in the United States. But as Canadians begin to feel duped, Canadian bank economists are pointing out that a large part of the difference is a discrepancy in the way the two figures are calculated, including the fact. Statistics Canada skips rising prices of used cars,

Another important concept for the understanding of inflation is “real” versus “nominal”.

At Tuesday’s confirmation hearing, following Powell’s optimistic remarks about how wages were rising, U.S. Sen. Pat Tommy asked a question that helps explain why a “nominal” increase in dollar value, or income, should be seen only in light. Can be seen in “real” growth after subtracting inflation.

“There have been some comments about pay benefits,” Tommy said. “But wage benefits that are greater that have been wiped out by a rise in prices do not leave a family better off.”

In my holiday talk on inflation, one of the young people I was talking to offered a five percent pay increase on the idea of ​​their bosses ever increasing wages by only one or two percent in their experience. . This is called inflation expectation.

Powell knows he’s in the running with those same expectations, and that they’re not going to last if high inflation persists.

Asked about bringing inflation under control with higher interest rates, Powell repeatedly pointed out that a hike in rates can control borrowing and thus demand for commodities, with global supply being the main current driver of inflation. The problem is, raising interest rates won’t do anything.

“My expectation is that as the year progresses we will see some relief on the supply side,” Powell said. “If that doesn’t happen and we see inflation stay even higher … then I think the risk of it getting into the psychology of businesses and households and people, I think it increases.”

And if supply chains don’t repair themselves soon, rising inflation expectations and increased inflation could become a major threat.

follow don on twitter @don_pittis

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