Oregon economist on inflation concerns

According to Josh Lehner, inflation is “one of the most interesting economic developments to watch” in both the short and long term. Lehner is an economist with the state of Oregon, and he says that despite job losses and supply chain problems in many sectors, incomes are up and so is productivity. He’s hopeful that increased costs for goods and services will correct themselves over time, and it won’t be necessary for the Federal Reserve to raise interest rates, which could trigger a recession. We hear from Lehner about the data he’s watching and what it means for Oregonians.

This transcript was created by a computer and edited by a volunteer.

Dave Miller: This is Think Out Loud on OPB, I’m Dave Miller. Josh Lehner joins us now. He’s an economist with the state of Oregon. He wrote recently that inflation is one of the most interesting economic developments to watch, in both the short and the long term. We wanted to know why, and so we called him up. Josh, welcome back.

Josh Lehner: Thanks Dave, pleasure to be here.

Miller: It’s great to have you on again. This is probably Econ 101, but why have prices been rising recently?

Lehner: You think about it, inflation is really about economic growth, and income growth in particular, right? As you’re working more or you’re increasing productivity, your incomes are rising, you’re able to spend more. But that also means the cost of production goes up for businesses, so they’re raising their prices to their consumers and the like, and it’s kind of this reinforcing dance that goes on. We try to keep it at a relatively low and stable rate so that businesses and households can plan and adjust accordingly over a matter of time.

Miller: What level of inflation have economists identified in recent months?

Lehner: The Federal Reserve has a target of about 2%. And right now, inflation is rising at a 5% rate.

Miller: That’s 2% annually, right?

Lehner: Corect, that is not month over month.

Miller: So what’s special about 2%?

Lehner: There’s honestly nothing special about 2%. That’s just kind of where the academic literature settled over a matter of quite a long period of time, coming out of the really fast inflation of the 70s and early 80s. There’s some argument where there should be 2% or 3% or 4%, but I think they generally agree relatively low. But the biggest thing would be stable, or predictable, so that businesses can plan accordingly.

Miller: So stability and planability is more important in some ways than any specific number?

Lehner: That’s right. Absolutely.

Miller: You wrote in this post, as I mentioned, inflation over the coming 3, 6, 12 months, is one of the most interesting economic developments to watch. What made you say that?

Lehner: We have a lot of different things going on. On one hand, we have this surge of prices today, related to reopening the economy as we continue to come out of the pandemic, where we have prices of used cars, prices of rental cars, prices of airfares and the like have just gone through the roof as we’ve all tried to get back to our lives, as we thought the pandemic was waning. And so that has really created these challenges where the demand is up a lot, and the supply is not. And so prices are rising quickly. So we have what we think is a temporary phenomenon with quickly rising prices there. But what we’re interested in is where will inflation ultimately settle? Used car prices can’t go up 30% or 40% every single year. It’s kind of a one time thing. And so where does inflation settle once we get past this reopening phase, and what will the Federal Reserve do about it should that inflation be stronger than expected? That is what economic nerds are really interested in.

Miller: To what extent is high inflation always a self correcting phenomenon, where decreasing demand for products that people don’t need to buy because they see them as too expensive will then eventually work its way through the economy, lowering prices, or at least slowing down the increase in prices. In other words, does high inflation fix itself?

Lehner: I think in a lot of ways, in the traditional way you think about it, absolutely. Again, we’ll go back to car prices because those have been some of the largest increases. If we continue to see a 30% increase in car prices, at some point, we’re just gonna stop buying cars, right? It doesn’t matter how much damage you do or if you have to replace the engine, you just fix up the existing car and you don’t buy another one. And so therefore, at some point, those price increases will peter out.

The problem here is when those price increases peter out because of what’s called demand destruction. It just gets so high, the costs go up so much, that we just can’t afford to do it. And then that’s bad because then we’re not spending the money, we’re not having those dollars circulate through the production side of the economy that would then turn into wages for automobile makers, and all that sort of stuff.

Miller: What do you think has been always going to be most interesting to watch when it comes to inflation indicators, specifically in Oregon? Because we’re talking here about a national phenomenon, that’s what the Fed is paying attention to. But you look at that, and you focus on the state of Oregon. So what’s on your mind?

Lehner: It won’t be a surprise to any of the listeners, but the biggest thing we’re watching closely would be housing costs inflation on the west coast. Unfortunately, we no longer have a Portland Consumer Price Index, the Bureau of Labor Statistics killed that a few years ago, so we no longer have our local. But we look at the west coast inflation prices and the like, and the big one is housing. Same thing locally as it is on the west coast. And that has been a driver of inflation being faster on the west coast than it is in the rest of the country, and most of that can be chalked up to our housing costs increasing at a faster rate than elsewhere.

Miller: So what are you going to be looking for in particular? The extent to which housing costs are increasing, or that rate of increase is slowing?

Lehner: Absolutely. The housing costs, obviously at a household level, creates all sorts of challenges, eroding affordability. You pay your rent first, and so then therefore you have less money to put food on the table and the like. And we’re starting to see rental inflation pick back up, vacancy rates are declining. And so how much will that feed through? And ultimately, you probably heard economists talk about real growth versus just total growth, nominal growth, and that difference there is inflation. So we’re seeing wages in the economy are rising really quickly today. Leisure and hospitality wages are up 11% in the last year, but inflation is up 5%. So it’s really only a 5% or 6% real increase in wages for our workers at the bars and the restaurants, so it’s kind of taken away half of that increase. And so therefore, that means they have less real growth to put food on the table or buy clothes for their kids as school starts back up and all that sort of stuff.

Miller: Although when you mentioned those numbers, it made me think about retired people or other people who are on fixed incomes, who I guess are the ones who would be hit hardest by inflation, right?

Lehner: It’s really our lowest income households, which also includes a lot of fixed income retirees. And the simple reason there is our lower income neighbors, they spend every dollar they get. They live paycheck to paycheck or retirement check to retirement check. And so therefore as prices are going up, that increase in the prices is impacting every single dollar that they have. And our higher income neighbors, they have the ability to save, they have the ability to invest. And so even though prices are up, asset markets, whether it’s housing market, housing wealth, stock markets and the like, they’re up even further, and so if they’ve been investing that, then they’re still coming out ahead, and they’re not spending every dollar they have. So therefore those increases in prices aren’t impacting every dollar they have in their bank account.

Miller: Just briefly, last week we saw new poverty data released, and it showed that poverty actually decreased during the pandemic. If I understand the mechanism here correctly, it’s that there was an unprecedented level of money going directly to people in the form of unemployment benefits or other public benefits, or just direct checks that most Americans got. What are you expecting when that never before seen spigot of cash is essentially shut down.

Lehner: That’s right. The Census Bureau produces two numbers. They produce the official poverty number, which is looking at household income excluding federal aid. And as you would imagine, we lost 15% of our jobs at the start of the pandemic, that declined, income declined excluding the federal aid, so the official poverty measure went up a little bit, but not as much as you think for a recession. But once you factor in that federal aid, and something called the supplemental poverty measure, which in this case is a much better gauge to look at because it includes all of that federal aid, the recovery rebates and unemployment benefits in particular, that actually declined, because the federal government pumped all that aid directly into households. So poverty went down.

That’s actually one of the sources for some of these inflationary pressures. In Oregon today, we have 10% more income than we did at the start of the pandemic. We have incomes that are up. And so we’re trying to spend money because we have it. And so that’s pushing up some of those prices because the demand is there. And so what happens when this federal aid goes away as it is now? Well, we’re gonna settle back in, things are gonna slow down a little bit. But the good news from an economic perspective, if you look at just underlying wages in the economy or the like, they are growing, they are above where they were at the start of the pandemic, and they nearly reverted all the way back to trend, right? It’s almost like the federal aid not only filled the hole in the economy, but has returned us to our old trajectory, if not above it. And so the outlook, from a big picture perspective, is honestly really bright.

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