Inflation tends to be a symmetrical phenomenon. It tends to come down as quickly or as slowly as it went up when measured on a y/y basis. We can see this consistent pattern in the CPI inflation rate for the US since 1921 (Fig. 1). The inflation symmetry has been particularly pronounced in the goods-producing sector (Fig. 2).
That’s because goods prices tend to respond quickly to changes in supply and demand caused by price changes. Rising (falling) prices of goods, especially of commodities, tend to dampen (boost) demand while stimulating (depressing) supply. Prices in the services-providing sector tend to be stickier because labor costs tend to be more important there than among goods-producing industries, which are less dependent on labor thanks to productivity-enhancing innovations. Nevertheless, the CPI inflation rate in services has also been relatively symmetrical since the start of the monthly data in 1957.
The boom-and-bust business cycle plays a role in the symmetry of inflation; inflation typically accelerates during the later stage of booms and moderates during busts. Monetary policy plays an important role in the inflation cycle as central banks fall behind the inflation curve during economic expansions, thus boosting inflation. They then scramble to get ahead of the inflation curve by aggressively tightening monetary policy, which triggers recessions.
That’s a simple and stylized description of the relationship of the inflation cycle to the business and monetary cycles. Ever since Milton Friedman taught us all during the 1970s that inflation is always and everywhere a monetary phenomenon, experience has taught us that lots of other factors besides monetary policy also influence inflation. In fact, Friedman later clarified that he was referring to episodes of persistent inflation. In the short run, he acknowledged that supply shocks can impact price levels.
Indeed, our central thesis since inflation reared its ugly head in 2021 and 2022 has been that the high rates of inflation were triggered by various supply shocks attributable mostly to the pandemic and to the Russian invasion of Ukraine. In the March 16, 2022 Morning Briefing, we wrote: “Debbie and I raised our inflation forecast as a result of the Ukraine crisis. We now expect that the core PCED inflation rate will peak at 6.0%-7.0% around mid-year and fall to 4.0%-5.0% by the end of the year. Then it might decline to 3%-4% in 2023, maybe.”