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Inflating Inflation

There’s been a lot of talk about inflation in the past few months, a lot of it needless scaremongering, but this is what the media feeds on. The latest “headline” CPI figure over the last 12 months is 7%. The index less food and energy, benchmarked separately thanks to their volatility, is 5.5%.

A few points about these indexes. They are based on a “basket” of various products that are intended to mirror an average family’s expenses, but that's hard to pin down. The components within the indexes are weighted as well, so if used car prices are up 37% over last year, as reported for December, the index doesn’t reflect the full heft of that increase when it’s put in the mix. Even so, if that one single metric had remained flat, there's no way you get a 7% CPI print.

However, you may not even be in the market for a used car, and if so, it’s a non-event for you. If you own a used car, you can sell it or bail out of a lease at a handsome profit and move into a new car, since prices for those haven’t jumped as much. This has become a popular tactic. So much so, people are buying out their leases early and flipping the cars into new ones. The OEMs have responded by forbidding third party buyouts, which became a nascent industry unto itself.

Air fares are included in the index, but again, it's not something you pay for every day. Energy is a major factor in the “headline” index. Gasoline prices are up around 50% from last year. But here too, the numbers get a little distorted. Gas prices are benchmarked from the low base rate seen in December 2020, and miles traveled are up over 30% since people are flying less and avoiding mass transit thanks to Covid. That demand pull has an effect on pricing, aside from other factors like OPEC’s manipulation to achieve their own ends.

Gasoline prices are politically treacherous but Americans have no one to blame but themselves. The top three selling vehicles in this country are full sized pick ups, and even though these behemoths get better mileage than they did ten years ago, they serve to spike demand well beyond an appropriate level. America also has the cheapest gasoline prices in the developed world, by far. They are over two to three times as much in Europe as they are in the U.S.

What else is up sharply? Hotel stays, but again, these are prices that are picking themselves up off the floor from last year’s washout, so on a year over year basis, you’re looking at a 23% hike.

To give you an idea how the media can play the story, Chuck Todd of Meet the Press displayed an infographic on price hikes. It showed eggs were up 11% over last year from $1.48 per dozen. However, as recently as 2015, the price was $2.75, down to $1.82 in 2017, trickling down to the $1.48 level last year. So the correct observation is that the price of eggs has been on a deflationary tangent for six years up until now. Even so, on a weighted basis in the index, eggs are not a big factor.

What hurts most? Housing costs. Now the CPI only covers rents, not purchases of homes, because a home is considered a capital investment and not a consumable. But Covid has triggered accelerated migration patterns, and some smaller cities are experiencing explosive population growth. The Tampa-St. Petersburg area is a prime example. Median rents have soared by 34% over last year, and housing costs are very heavily weighted in the index, so that one lone factor can drag the aggregate number sharply upward.

Chart: rent of primary residence 2017-current

Chart: Owner's Equivalent Rent of Residences 2018-current. (Used for owner occupied dwellings)

Rents had plummeted to low levels due to Covid, so once again, we are looking at price rebounds from low base rates. The housing price index is a national read, so a few outliers can swing those numbers to an outsized degree. Given our wretched zoning policies and selfish NIMBYism, decades of underbuilding fuels prices even sharply higher.

In any case, for most people, inflation hasn’t touched them as hard as the media narrative tells them it has, which is probably why you’re wondering why things really haven’t changed for you much.

But markets are wonderful things. In the coming months, supply and demand will find their equilibrium, and it will be onto the next manufactured crisis.


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