June CPI: Warning Of Stagflation
Another month, another red hot CPI reading, with the inflation indicator clocking a whopping 5.4% YoY increase for June. This has added even more fuel to inflation hysteria, and intensified the debate on the “transitory” nature of the current bout of inflation. However, if we move away from the noise of people arguing for their chosen narrative and look past the headline CPI number, the component data tells an interesting story.
Looking at a chart depicting the YoY change of the headline CPI number, it is obvious that we are very close to making new highs, with the previous instance of a 5.0+% reading coming 13 years ago, in the middle of the Great Financial Crisis. This little factoid is actually useful in its own way, as it warns us that extraordinary times, that is times of great economic hardship, uncertainty, and volatility, give rise to very large swings in prices.
Looking into the CPI’s internals, i.e. its components, we get a more nuanced picture of what is actually causing these swings.
From the chart above, which shows us the YoY change in 10 components of the CPI, we can see that over the last 15 or so years, the largest swings have come from only 2 components – Energy and Airline Fares. This makes sense since energy prices are notoriously volatile, and are also dependent on economic activity; less activity = less need for energy = lower demand and lower prices. Airline Fares follow more or less the same logic; less activity = less demand for business and personal travel = lower prices.
Which leads us to the all important question: Is the current price spike due to a large and robust economic recovery, or one more related to supply constraints and spending from pent up demand that may not be very sustainable?
In attempting to answer this, 2021’s spike gives us a pretty good clue. Prices of Used Cars and Trucks have spiked along with Energy and Airline Fares, which is telling because this data series has not been that volatile. But, telling of what?
Simply that broader levels of spending are just not that high, and that the eye catching headline number belies a much less exciting reality.
The chart above shows us how each component of the CPI has changed on a yearly basis over the months from Jan 2019 to Jul 2021. We can see that the Used Cars and Trucks category is the standout performer, coming in with an increase of almost 50%. Energy and Airline Fares are next, with large initial falls during the pandemic shutdown months leading to sharp rebounds (illustrating base effects), which is normal behavior on their part.
Interestingly, the other 7 components are not growing at such a red hot pace – in fact, most of them are changing at rates very much inline with how they normally grow. As such, the 3 outliers here are the ones causing the headline number to spike to near record levels, and they really are just that – outliers.
Which brings us back to Used Cars and Trucks, because, as stated earlier, this category simply hasn’t been a historical outlier like Energy and Airline Fares have been. Looking at inflation in the New Vehicles category, we see that there has been a rise in prices going into June ‘21 as well, albeit nowhere near as sharp as that of Used Cars and Trucks. Considering that part of the price increase in New Vehicles can be attributed to the global microchip shortage, it would not be unreasonable to conclude that consumers have expressed a very clear preference for Used vehicles in 2021.
Which really isn’t a signal that the current economic recovery is as strong as the headline number suggests it is. In fact, should the recovery remain tepid and prices of these outliers remain high, especially in the Energy category, record breaking CPI numbers might actually hint at a stagflationary future.
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