U.S. inflation rose at an annualized pace of 9.1 percent in June and as expected the Federal Reserve raised rates by 75 basis points in July, following up on the hike of a similar quantum in June. Amid soaring prices, many are wondering how long inflation will last and if it will eventually come down in 2023.
Inflation is the rise of prices of goods and services in an economy. Every country has a different basket of goods and services to determine inflation. Healthy inflation, which is within the central bank target rate, is generally good. In fact, before the COVID-19 pandemic, policymakers in developed economies were worried about low inflation and were taking measures to increase inflation.
Inflation isn't always bad.
If inflation is within range, it's healthy inflation. Deflation is a bigger concern for policymakers and can play havoc with the economy, Japan being the textbook case in point. If inflation rises less than the average wage growth, most consumers are also better off as they earn more to beat inflation.
How long will inflation last?
There are now ample signs that inflation could be nearing its peak. Commodity prices have fallen, energy prices are off their 2022 highs, and low demand could cajole companies to reduce the prices of manufactured products. In its recent update, Walmart also talked about slowing sales of general merchandise and said that it might need to lower prices to clear inventories. The job market is expected to weaken in the coming months as many companies are cutting back on hiring plans amid the slowing U.S. economy.
Fed’s rate hikes will help bring down home prices, where activity has tumbled amid multi-year high mortgage rates. As the economy slows more, which even the Fed acknowledged in its July meeting, inflation should fall. However, high inflation will likely last in 2022.
Inflation should come down in 2023.
In 2023, inflation should come down sharply from these levels. Along with the above-mentioned factors, the high base effect would come into play. As prices for goods and services start coming down, we should see its impact on headline inflation too. However, the pass-through of lower prices is generally slow as producers are struck with high-cost inventories.
The University of Michigan Consumer Sentiment Index survey showed that consumers expect U.S. inflation to rise 5.2 percent in 2023, which is 10 basis points below the June survey. The July survey also showed that U.S. consumer confidence has plunged amid rising inflation.
The next inflation report will be released on August 10.
The next inflation report will be released on August 10. Analysts expect the CPI to rise 9.1 percent on an annualized basis and 1.3 percent on a monthly basis. U.S. inflation surpassed the estimates in May and June.
There are two key upwards risks to inflation.
While inflation is expected to come down in 2023, there are two main risks. First is of course the Russia-Ukraine war where Russia has begun weaponizing its gas exports. If the war gets worse, it could put upwards pressure on global oil and gas prices.
Second, a major COVID-19 outbreak in China or any of the other Asian manufacturing hubs might add to inflation. China is continuing with its zero-COVID policy, which has impacted the supply chain for several products. Overall, given the current macro environment, it would be fair to assume that inflation will fall in 2023.