Inflation Is Down. Why Doesn't It Feel Like It? 

Adam Phillips, Managing Director, Investments

Inflation has fallen considerably from its peak, but for many Americans, the relief has been difficult to feel.

A recent YouGov poll helps illustrate the disconnect. When Americans were asked to identify the single most important issue facing the country, 37% selected inflation and affordability, the highest reading since the question was introduced in 2022. That was the same year inflation reached 9%, its highest level in four decades.

In the same survey, 47% of Americans described the economy as poor, matching the highest reading in more than three years.

Polling data always deserves some caution, particularly in a politically polarized environment. Still, the results raise an interesting question: Why is inflation an even greater concern today than it was when prices were rising much faster?

Inflation vs. the Price Level
Part of the answer lies in an important distinction between the rate of inflation and the level of prices.

When economists say inflation is coming down, they mean prices are increasing at a slower rate. It does not mean prices themselves are falling.

After several years of elevated inflation, those price increases have compounded. Something that costs 20% or 25% more than it did a few years ago is still substantially more expensive, even if its price is no longer rising as quickly.

That helps explain the disconnect between improving inflation data and the experience of many households. Economists and investors tend to focus on the rate at which prices are changing. Consumers are understandably more focused on the prices they actually pay.

Inflation Back in Focus
That distinction will be particularly relevant this week, with several important economic reports on the calendar.

The latest Consumer Price Index report arrives on Wednesday, followed by the Producer Price Index and retail sales on Thursday. Higher energy prices are expected to push headline inflation higher, potentially into the mid-3% range. Core inflation, which excludes food and energy, is expected to remain relatively stable but still above the Federal Reserve's 2% target.

Retail sales will also be worth watching. Because retail sales are not adjusted for inflation, an increase in spending doesn't necessarily mean consumers are purchasing more goods. In some cases, they may simply be paying higher prices for the same purchases.

The hope is that inflation does not surprise to the upside, which could give the Federal Reserve more flexibility to leave interest rates unchanged at its next meeting. That meeting comes just days before the midterm elections, putting additional attention on the Fed even as policymakers seek to operate independently of politics.

Ultimately, the incoming inflation data will play an important role in determining what the Fed does next.

The Bottom Line
While the rate of inflation has declined significantly from its peak, the cumulative effect of several years of higher prices remains. That helps explain why affordability continues to rank so highly among Americans' economic concerns.

This week's inflation reports will provide another indication of whether price pressures are easing. But even a favorable report won't necessarily translate into immediate relief for household budgets.

For investors and consumers alike, that's an important distinction to keep in mind.

Often quoted in major national media, Adam is a Chartered Financial Analyst (CFA^®), a CERTIFIED FINANCIAL PLANNER™ (CFP^®), and has been included on the Forbes NextGen Best-in-State Wealth Advisors 2019 list. He is a member of the CFA Society of Los Angeles and the CFA Institute. Adam helps establish asset allocation strategy as a member of the EP Wealth Investment Committee, which supports all EP Wealth Advisors and their clients. The Committee’s top-down approach to portfolio construction begins with an outlook on the economy’s likely direction, followed by the implications for different economic sectors and asset classes. This culminates in strategic selection of the individual stocks, bonds, mutual funds or other investments deemed most appropriate for each individual client’s portfolio. 

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Video Transcript: 

Adam Phillips:

With the midterm elections now just three weeks away, it's probably no surprise that the economy—and especially inflation—remains front and center for American voters.

But there was an interesting statistic in last week's YouGov poll that I think is worth spending a few minutes on.

The survey asks Americans to identify the single most important issue facing the country from a list of 15 choices. And last week, 37% selected inflation and affordability. What's interesting is that this is actually the highest reading since the question was introduced in 2022, when inflation was running at 9%, its highest level in 40 years.

And in that same survey, 47% of Americans described the economy as poor, matching the highest reading in more than three years.

Now, we always have to be a little careful with polling data, especially in today's politically polarized environment. But this survey includes roughly 1,500 Americans, weighted across age, gender, race, education, and geography, with a fairly balanced representation across political affiliations.

So I do think there's something worth paying attention to here. Why is inflation an even bigger concern today than it was when prices were rising at their fastest pace in four decades?

Well, I think part of the answer is that there's an important difference between the rate of inflation and the actual level of prices. When economists talk about inflation coming down, they're referring to how quickly prices are increasing. But that doesn't mean prices themselves are falling. It simply means they're rising at a slower pace.

And after several years of elevated inflation, those price increases have compounded. So even though the annual inflation rate is well below its peak, the cumulative impact on household budgets hasn't gone away.

Think about it this way. If something costs 20 or 25% more than it did a few years ago, the fact that its price is now increasing at a slower rate probably doesn't offer much comfort. You're still paying substantially more for the same thing.

And I think that's an important distinction, because while economists and investors tend to focus on the rate of inflation, consumers are understandably more focused on the actual prices they're paying.

Which brings us to this week, because inflation will once again be in the spotlight. We'll get the latest Consumer Price Index report on Wednesday, followed by the Producer Price Index and retail sales on Thursday.

Higher energy prices are expected to push headline inflation higher, potentially into the mid-3% range, while core inflation—which excludes food and energy—should remain relatively stable, although still above the Fed's 2% target.

And retail sales will be worth watching as well. One thing to remember is that retail sales aren't adjusted for inflation, so an increase in spending doesn't necessarily mean consumers are buying more. They may simply be paying higher prices for the same goods.

Of course, the hope is that inflation doesn't surprise to the upside, giving the Federal Reserve a little more breathing room to leave interest rates unchanged at its next meeting. And the timing of that meeting is interesting, because it falls just days before the midterm elections.

Now, the Fed is supposed to operate independently of politics, and I suspect policymakers would prefer not to have their decisions viewed through a political lens. But ultimately, the inflation data will have a lot to say about what they do next.

The bottom line is that while the rate of inflation has come down considerably from its peak, the cumulative impact of several years of higher prices is still very much with us. And that helps explain why affordability remains such a major concern for so many Americans.

So while this week's inflation reports will tell us whether price pressures are easing, it's worth remembering that even a favorable report won't necessarily translate into immediate relief for household budgets.

And that's an important distinction for investors and consumers alike.

Thanks for listening, and we'll see you next week.

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