Real US consumer price inflation is running at about 4% a year, well above the Federal Reserve’s 2% target and far higher than the 2.7% year-on-year increase reported for April and reflected in the yields of short-term inflation-indexed US Treasury securities.
That’s due to a quirk of US inflation measurement, which includes home price inflation with a one- to two-year lag.
Even worse, the explosion of US home prices—now increasing at a bubbly 12% a year—portends even higher inflation for 2022. US fiscal and monetary policy pushed $5 trillion of fiscal stimulus into an economy hobbled by supply constraints, creating the economic equivalent of shaking a bottle of warm Pepsi while placing one’s thumb over the opening.
During the inflationary 1970s, Americans took on 30-year mortgages at interest rates of 7.5% to 10% to buy homes as a hedge against inflation.
They are doing the same thing today, except at record-low rates of as little as 2.7%, thanks to the Federal Reserve’s decision to hold short-term interest rates at zero while buying $4 trillion of securities during the past year.
Home price inflation is back to 12% a year, equal to the peak of the housing bubble of the 2000’s.
The US government’s calculation of home price inflation in the Consumer Price Index, though, shows a year-on-year gain of just 2%. That’s because the government’s measure of “owner-equivalent rent,” which makes up nearly 30% of the Consumer Price Index, responds to home prices with a lag—as shown in the chart below.
The drop in the government’s home price inflation measure during the past two years coincides with a jump in the price of homes, as reported by the Case-Shiller Index. That puts two years’ worth of higher inflation into the pipeline.
There is a close correlation between the Case-Shiller Index of US home prices and the Consumer Price Index housing component—but with a lag of 12 to 24 months. In plain English, today’s home price bubble will work its way into the reported Consumer Price Index numbers in 2022 and 2023.
Other components of the Consumer Price Index are poised for a jump, as I reported April 16. The reported 9.8% jump in US retail sales from March to April reflected price increases more than real improvement in retail volume. The single largest gain in retail sales occurred in motor vehicles and parts.
The Mannheim Index of used vehicle prices registers a 30% jump year-on-year as of February 2021, far above the government’s 9% estimate. Part of the difference is due to the fact that Mannheim takes into account auctions of used vehicles at the wholesale level, which means that the 30% price jump is still trickling down to the retail level.
US auto production fell by about 25% during the first quarter, from a December 2020 annual rate of 12 million vehicles to about 9 million vehicles in March, in part due to a global shortage of semiconductors.
Auto sales rose to a 13.6 million annual rate. Imports and inventory made up the difference, and auto inventories fell to just two months’ supply, one of the lowest levels in history, and the lowest since the 2009 recession. The constriction of auto production due to the chip shortage is global, limiting the availability of imports.
The world’s largest chip fabricator, Taiwan Semiconductor Manufacturing Co, warned last week that “ongoing trade tensions or protectionist measures could result in increased prices for, or even unavailability of, key equipment” for semiconductor production.
TSMC echoed an earlier statement by China’s Huawei Technologies, which blamed the global chip shortage on US sanctions.
The jump in sales, spurred by the Biden Administration’s $1.9 trillion fiscal stimulus, clashes with falling production and shrinking inventories. That in turn squeezes the used vehicle market, pushing the year-on-year price increase.
Total US machinery orders have fallen by about a third since the 2007 peak after inflation, reflecting systematic underinvestment in US production capacity.
