What is inflation? Inflation reflects the broad rise of prices or the fall in the value of money. It generally results from too much demand chasing too few goods or limited services, leading to price increases. Inflated prices don’t necessarily hurt the economy as a whole, and only those consumers making purchases experience the increase.
For example, new and used auto prices have risen sharply because of vehicle shortages driven by a lack of components such as semiconductors. The increase in auto prices doesn’t necessarily affect you unless you want to buy a vehicle.
Higher prices in one sector also don’t necessarily lead to general inflation across the economy. But price increases across a range of categories will weaken consumers’ spending power.
What is causing inflation? The current bout of inflation has several causes, many linked to the pandemic. For one, consumers have been flush with savings from government stimulus programs and depressed services spending as a result of restrictions on businesses, leading them to open the spigot for goods that are in scarce supply.
Supply-chain disruptions have also persisted across the global economy, with Russia’s invasion of Ukraine and the recent rise of Covid-19 cases in China adding additional pressures. Energy prices, including gasoline, have gone up. Truck drivers, seaport slots and warehouse spaces are all in short supply, leading to costly delays and rising shipping rates for goods.
Fewer workers are in the labor market, encouraging those who are working to demand raises. And low interest rates from the Federal Reserve have made borrowing cheaper, making big purchases more attractive. The Fed is now moving rapidly to make borrowing more expensive, using the central bank’s primary tool of raising rates. These factors and many others are driving up costs.
The added costs, at every step from production to sale, lead to price increases for consumers, with some companies seizing on a rare opportunity to raise prices.
How is inflation measured? There are different ways of measuring inflation, even among government agencies. The shorthand version comes from the Labor Department’s consumer-price index, or CPI, which is calculated using a survey of households and only covers spending on goods and services. It excludes expenditures that aren’t paid for directly, such as medical care paid for by a person’s health insurance. Its limited set of expenditures can make CPI more volatile.
The personal-consumption-expenditures price index, or PCE, takes into account a broader range of expenditures—and feedback from businesses—to provide a more expansive picture of price changes. This inflation reading is the Federal Reserve’s preferred measurement. The Commerce Department releases its PCE estimate monthly as part of its income and spending report.
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