Voters have many reasons for choosing a particular candidate during elections. According to a post-election survey at navigatorresearch.org, one of the biggest reasons Trump won was voter dissatisfaction with the economy under Biden, particularly the higher prices consumers had to endure as a result of the Covid-induced inflation. They seemed to have expected that Biden/Harris should have been able to not just get inflation under control but also to bring prices back down to where they had been before Covid. Is it possible for any U.S. President to do that?  

First, what is inflation? It’s simply the rate of change of the prices of goods and services in an economy from one year ago through today, typically measured using the consumer price index (CPI). As of this writing it’s 2.7%, a bit higher that the Federal Reserve’s (Fed’s) target of 2%.

Next, what drives inflation? There are myriad causes but simplistically they can be categorized as supply-driven or demand-driven. On the supply side, shortages of energy products, industrial metals, or other basic raw materials pushes their prices up, consequently forcing up the prices of other manufactured products as well. Labor shortages resulting in production declines have the same effect. Recall the post-Covid supply chain disruptions and their impact on all kinds of products.

On the demand side, when the federal government pumps excess capital into the economy, demand is increased. That forces prices higher until supply catches up. That’s one outcome of Biden’s American Rescue Plan Act of 2021. Consumers and businesses received cash from the government to help keep them afloat during the Covid shutdowns. (I imagine many people were grateful for that at the time.) Once Covid was brought under control, consumers’ desire to start traveling and spending more with all that excess capital represented a significant increase in demand.

As I reported a few years ago, an economist at the San Francisco Federal Reserve found that the supply-side factors outweighed the demand-side factors causing the inflation spike in the U.S. and the rest of the world after Covid (see https://www.frbsf.org/economic-research/publications/economic-letter/2022/june/how-much-do-supply-and-demand-drive-inflation/). Said another way, the majority of the inflation was an outcome of the worldwide shutdowns rather than the actions taken by Biden. And in hindsight the Fed, the organization primarily responsible for fighting inflation, acted too slowly at first before bringing the inflation rate down to a more acceptable level.

But even if Biden or the Fed had been able to knock the inflation rate down to zero, prices wouldn’t have gone down. Prices can only decline if the economy experiences deflation. And in many ways deflation is worse than inflation. When prices are dropping, consumer spending slows because people tend to wait for the expected lower prices rather than buying now. Since 70% of the economy is consumer-driven, deflation is much more likely to cause an economic recession than inflation.

Whenever there’s a bout of high inflation, a new higher baseline for prices becomes the norm. Five dollar chicken sandwiches at fast food restaurants are likely to become the same kind of relics as ten-cent coffees from the distant past.

Did voters get it right? Is Trump more likely to somehow knock down prices without causing an economic recession? I doubt it. But only time will tell.

(PERIGON is a registered investment adviser. More information about the firm can be found in its Form ADV Part 2, which is available upon request by calling 877-977-2555 or by emailing compliance@perigonwealth.com).