On paper, inflation has lowered over the past two years, but go to the grocery store, fill up your car with gas or go out to eat and I highly doubt you’ll find anyone ecstatic about how inflation has “cooled”.
Where’s the disconnect between the numbers on paper and the feeling you get in your stomach today when you go to make a purchase? I think the disconnect lies in the verbiage and rhetoric used in economics to describe different ideas/concepts.
The most recent March 2024 CPI (Consumer Price Index) inflation report recently showed that inflation was up 3.5% from a year prior, and up 0.4% from the month prior. This is above the Federal Reserve’s 2% annual target for inflation but is down from its peak of 9.1% in June of 2022. This is good news but why can’t we feel it in our wallets?
Big Picture: What the Heck Is Inflation Anyway?
According to the Oxford dictionary, inflation is “a general increase in prices and fall in the purchasing value of money”. In other words, inflation is when a good or service costs more for the same good or service than it did, say a year ago. Naturally consumers are not fond of inflation, we don’t want to pay more and get the same thing. So, inflation getting lower is a good thing right? Kinda….
While it is good that we see inflation coming down, it’s sort of a double-edged sword because what it means is prices aren’t rising as fast, but they are still rising.
Let’s look at an example.
Let’s say a new cellphone costs $1,000 in year 1 and over the course of that year inflation runs at 9%. In year 2 that same cellphone costs $1,090 ($1,000 X 9%) for the same cellphone but inflation has driven the price higher. In Year 2 inflation comes down a little and now it’s 6%, so that cellphone costs $1,155.40 ($1,090 X 6%). Year 3 rolls around and inflation has fallen to 2% (yay inflation came down you think to yourself!). At the end of year 3 the cellphone costs $1,178.50 ($1,155.40 X 2%).
This is where we are currently in the inflation cycle. Prices are rising just not as fast as they were, and the previous periods of price increases are now baked in the cake. Meaning those two years of 9% and 6% inflation are still factored into the prices today. The result is compounding price increases that hurt consumers in the end. In the example the total price increase was 17.85% from inflation, while inflation was coming down!
What’s deflation, anyhow?
The biggest misconception we run into is often people connecting lower inflation with prices going down. When we see prices going down across the board it’s called deflation which is not where we are currently in our economy. Prices are rising just not as quickly as they were. That said even when the headline inflation number is rising there can be pockets of the economy or certain products that may actually lower their prices, but the overall inflation number looks at the economy as a whole.
So, as we look at reports about inflation over the past few years, just remember that having lower inflation is like saying you have a smaller leak in your boat. It’s still an issue but won’t sink you as quickly.
Inflation can often be hardest to deal with for those on a fixed income or in retirement. If the past couple of years have caused you stress and anguish over your finances give us a call. While we can’t fix inflation for the economy, we can help figure out a plan that makes sense for you and give you financial confidence even when the economy is worrisome.
