The US Consumer Price Index (CPI), the most broadly used metric for US inflation, remains a hot topic on the minds of both investors and consumers. Investors closely watch CPI data because it heavily influences the Federal Reserve’s interest rate decision making. For most consumers, however, the inflation rate is important because it shows how much prices have increased for the things they buy every day. When consumers have to spend more on the items they HAVE to buy, they have less to spend on the things they WANT to buy.
While CPI is based on a broad basket of goods and services, there are some items that may impact consumers differently. As an example, the basket includes:
- Basic food and beverages
- Housing costs / Rent
- Bedroom furniture
- Apparel
- Airfare
- Museum admissions
Each of these items have a different weighting within the basket and, therefore, have a different influence on the final CPI number. For example, the peak inflation number of 9.1% back in the summer of 2022 was significant but the chart below reflects that price increases of food-at-home items peaked in August 2022 at over 13% year-over-year growth.1
The food-at-home price index includes everyday items such as milk, eggs, cereal, and coffee. These items are more directly felt by the consumer as they are difficult to substitute and harder to live without. Similar to a rise in gas prices, high levels of inflation in food-at-home items act as a tax of sorts for consumers as it restricts their ability to spend on other things like home improvement or vacations.
Cost increases are a normal part of a growing economy, but the levels of increase are closely monitored for changes in trajectory (increasing faster or slower). Also, wage growth, or the increase in average hourly wages for workers in the US, can help offset some of these cost increases. What makes the current environment challenging is wages have not kept up with food-at-home price growth. This means many consumers have had to adjust their spending habits by pulling back on how much they purchase, finding deals/discounts, substituting for cheaper items, or changing where they buy groceries.
This change in prices for basic grocery items is reflected in the pictures below. The first shows the price increases of everyday items since 2019 and the second shows the items a consumer would need to remove to keep a grocery bill at the same cost as 2019. Again, wage growth for workers can sometimes offset this cost increase, but for those receiving less increase than average, or who are on a fixed income, these price increases can create real challenges and difficult decisions on what to cut out of the budget and still meet their needs.
At Gradient Investments, we watch inflation data closely and pay special attention to items that heavily affect US consumer spending. Consumer spending, especially discretionary spending, is the lifeblood of the US economy. The consumer’s ability to spend is dependent not only on their income levels, but also on the amount of their income that has to be used on everyday purchases and not on other discretionary spending. Inflation levels can also influence US monetary and fiscal policy decisions that can also have an effect on economic growth. Our current stance remains that inflation will come down to more normalized levels over time, but the stickiness of elevated costs may be with us for a bit longer than originally anticipated.
Originally posted here by Tyler Ellegard, CFA.