Over the past year, American inflation has dropped from 9% to 3%.
In August, Dr. Jeremy Siegel, Wharton professor emeritus of finance, expressed confidence the United States will not face a surge in inflation despite recent efforts to tighten monetary policy.
But will consumers see financial relief from higher costs?
Inflation and prices
Inflation and changing prices are often confusing concepts intertwined in public perception. Inflation is the rate at which prices fluctuate; it does not correspond to prices decreasing. So, as inflation drops, prices do not change, but the rate at which prices increase will reduce.
“Prices are going to stay permanently fixed at this elevated level and they are not coming back down because that would be called deflation. We are not going to be experiencing that,” Mitchell said.
What factors affect the rate of inflation?
While the inflation rate is dropping, Mitchell is not convinced it is reducing fast enough.
He notes that inflation is heavily influenced by expectations.
The challenge arises when long-term inflation expectations begin to affect public behavior, such as the demand for higher wages and shorter work hours. A current example is the ongoing strike between the United Auto Workers union and Motor City companies General Motors and Ford Motor Co.
“When companies start raising their prices, it creates inflation, and leads to a self-fulfilling prophecy or a self-reinforcing cycle,” Mitchell said.
Mitchell also points out the pandemic substantially altered economic behavior; collateral damage that would take a long time to adjust. For example, the COVID-19 pandemic exposed the vulnerability of supply chains. As a result, firms began to change their supply processes to prepare for another emergency. However, these new strategies increased their cost of production. These changes have stimulated inflation over time.
“There’s something called just-in-time inventory system,” Mitchell said. “If you’re building 100 cars today, you don’t need 150 transmissions, you would only need 100. But to increase the resilience of the supply chain, manufacturers want to ensure there’s more than enough, so they ask for 150 transmissions. Now, they must find a place to store the extras.”
The need for more storage incurs additional costs for manufacturers, which subsequently affects the prices of consumer goods.
Economic forecast and advice
According to Mitchell, although inflation is falling, if it’s a positive number, that means prices will continue to rise … even if the increase is small.
“In the short term, my advice to consumers would be to try and reduce expenses and save money. The easiest way to do this is to cut back on eating out,” Mitchell said.
For the long-term, he suggests consumers don’t try to spend everything they make. It’s important to have a monthly cushion on the off chance you don’t get that raise or inflation is high.
“For example, when the bank tells you that you can afford to buy a $150,000 house, try to buy one that costs less, about $130,000,” Mitchell said.