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Today's surging inflation will only last 6 months, former Fed governor says. Here's why.

grocery store facemask
A woman wearing a mask moves her shopping cart December 3, 2020 in a Trader Joe's supermarket in New York City.
  • Surging inflation should cool in six months, former Fed governor Randall Kroszner said on Bloomberg TV.
  • Faster price growth has mostly been driven by supply shortages and a rebound in travel spending.
  • Still, a jump in inflation expectations could spark longer-term price growth, Kroszner said.
  • See more stories on Insider's business page.

Prices for everyday items are climbing at the fastest rate since the financial crisis. But, it's likely that Americans will only need to endure the inflation surge for a few more months, former Federal Reserve Governor Randall Kroszner said Thursday.

Inflation has trended at decade-highs for months, fueled by a rebound in Americans' spending and a bevy of supply shortages. The leap in prices has prompted conservative-leaning economists to question whether inflation will naturally cool off as the Biden administration anticipates.

Where the White House and the Fed have said they expect stronger inflation to be "transitory," Republicans argue the overshoot risks a 1970s-like inflation crisis in which prices keep spiraling out of control.

Kroszner mostly agrees with the former over the latter. Faster price growth will cool off, but not immediately, Kroszner said in a Bloomberg TV interview. The cocktail of pent-up demand, stimulus-boosted savings, and one-off supply bottlenecks are all contributing to the inflation uptick. Those factors, while temporary, will take some time to fade, the University of Chicago economics professor said.

"I don't think they're necessarily going to be sustained over the year-to-two-year horizon. But over a six-month horizon? I think certainly," he added.

The transitory inflation thesis is simple. Much of the recent surge came from goods and services directly affected by supply-chain disruptions and the nationwide easing of economic restrictions. Meanwhile, as the country emerged from lockdown, Americans spent big on leisure and travel. Those factors raised the prices of used cars, gasoline, restaurants, and hotels.

And while consumer demand almost immediately recovered, supply chains struggled to catch up. Semiconductor shortages halted vehicle production and further boosted used-car prices. Soaring lumber costs lifted furniture inflation and contributed to record-high price growth for US housing.

The fact that supply shortages count for so much of the overshoot explains how inflation can ease into 2022. Producers were "not able to handle this big spike in demand we're seeing," Fed Chair Jerome Powell said in a July 28 press conference. But the leap in inflation is "really a shock to the economy that will pass through" as the economy settles into a new normal, he added.

Inflation expectations remain the key variable

One factor, however, can still throw a wrench in the Fed's outlook. Should enough one-off price jumps accumulate, Americans could brace for stronger inflation to last. That would first show up in consumers' price growth expectations.

Higher inflation expectations act as a sort of self-fulfilling prophecy. As Americans' expectations climb, businesses tend to lift prices. That then leads workers to ask for higher wages, which can spark a vicious cycle of persistently higher inflation.

Powell indicated in July that inflation expectations "appear broadly consistent" with the Fed's price-growth target. Still, if moods change and Americans start worrying about faster price growth, the central bank's "transitory" forecast could go up in smoke.

"You can get into this cycle where inflation starts to take off and become more permanent," Kroszner said. "That's really the key: Can [the Fed] keep inflation expectations well anchored? We'll see."

Read the original article on Business Insider

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