“Low inflation” doesn’t solve the inflation problem

If you your car needs repairs just so you can leave home and drive your pet to the vet, you might need a loan. And don’t even think about stopping for a burger on along the way.

Car repair is up 12.7% from a year ago, rent is up 8.0%, your vet bill will be 9.8% higher, and that lunch stop will cost you an additional 7.1%.

All these increases—along with many others—are components of “services inflation,” i.e., price increases for the services, rather than for the goods, that people use every day.

All together, these things cost 6.1% more now than they did last year.

And that doesn’t include energy prices. The number crunchers at the Bureau of Labor Statistics think those prices are too volatile and thus misleading.

With services inflation running over 6%, why is Wall Street celebrating July’s “low inflation” figures? The Consumer Price Index (CPI) has hit a two year low of 3.2%—down from last year’s hair-raising 9.0%.

That’s because a lower CPI might discourage the Fed from raising rates any further. The problem is that doesn’t exactly solve the inflation problem for most Americans.

Most of those prices will never come down

So why are services not cutting prices like the rest of the economy—manufacturing, retail sales, and so on? Even food (eaten at home, not in restaurants), which saw a 13% price hike last August, is now only running at about 3.5%.

One answer is that the prices of services are sticky.

Morgan Stanley’s managing director, Andrew Harmstone, sounded the alarm over the sticky services problem as early as last November when he wrote, “…Pressure remains elevated in another component of inflation: services.”

He added, ”Historically stickier than the more volatile goods component, it may take longer to come down.

The services sector is still exhibiting tight labor market conditions, creating wage pressure. In an economy heavily based on services, wage inflation may prove difficult to suppress.”

Even so, some service prices do decline, or at least slow down.

Airline ticket prices, for example, actually fell 18.6% in July, but that’s in part because of a massive spike in prices the year before.

July’s figure represented a return to a more normal level, as well as lower fuel costs. A few other items were cheaper, or at least not getting more expensive quite so fast.

But overall, the prices the average person pays to get things done are still growing staggeringly fast.

More worrisome, the burden of these prices falls disproportionately on the poor and middle class—who spend a bigger share of their income on everyday services such as even haircuts and trash collection.

Is the Fed listening?

Yes and no.

The Fed just released the minutes of its July rate-setting meeting. In the densely packed 10-page document, the problem got little attention.

In one of the few mentions of services inflation, the Fed’s rate experts noted, “Nonetheless, several participants commented that significant disinflationary pressures had yet to become apparent in the prices of core services excluding housing.”

That’s not to say the Fed did not see the problem coming.

In fact, the Dallas Fed published a paper a year ago with the refreshingly direct title, “Inflation in services likely to rise further despite slowing goods prices.”

Its researchers noted that services were still recovering from the pandemic. And that increasing demand combined with worker shortages would skyrocket prices for services.

Powell has said that he’s well aware of the issue. And, in a highly anticipated speech this Friday at Jackson Hole, he’s expected to address it.

The numbers strongly suggest it should be near the top of his agenda.