Supply Chain Issues Account for Half of US Inflation, Says San Francisco Fed

Shelves in grocery stores and drugstores such as at this CVS Drugstore in Cleveland, Ohio that once were well-stocked with baby formula, have been sparse if not bare for several weeks. A shutdown at Michigan-based Abbott Labs in February because of violations, has affected the formula supply chain throughout the U.S., causing parents to struggle finding the right kind of formula they need for their children. (Michael Sakal/The Epoch Times)

Supply chain issues have accounted for about half of the surge in U.S. inflation, exacerbated by the conflict in Ukraine, according to a June 21 report from the Federal Reserve Bank of San Francisco.

High consumer demand currently makes up a third of the increase.

“These results showing that factors other than demand account for about two-thirds of recent elevated inflation highlight some risks for the economy,” wrote Adam Hale Shapiro, Vice President in the Economic Research Department of the Federal Reserve Bank of San Francisco.

“Because supply shocks raise prices and suppress economic activity, the prevalence of supply-related factors raises the risk of entering a period of low growth and elevated inflation levels.”

U.S. inflation rates are currently running at three times the Fed’s target, as the latest Personal Consumption Expenditures (PCE) index in May came out worse than expected, with little sign of progress.

The PCE price index rose to a year-to-year record of 6.3 percent in April after reaching a 40-year high in March.

Government Policies and Interventions

The government stimulus bills during the pandemic played an important role in a surge in consumer demand and inflation, along with the continued supply-chain crisis and labor shortages.

The Russian invasion of Ukraine has hit food and energy supplies, while strict lockdowns in China have exacerbated supply-chain disruptions worldwide, as the rest of the global economy emerges from the pandemic.

The Federal Reserve was forced to dramatically raise interest rates last week after the bad news, as it tries to bring inflation back to its 2 percent goal, with a 75 basis point hike to a range of 1.50-1.75 percent, in order to cool down hot consumer demand.

“Inflation declined rapidly at the onset of the pandemic in the spring of 2020 before taking a dramatic turn upward in early 2021, rising to levels that remain well above the Federal Reserve’s longer-run goal of 2 percent on average,” said Shapiro.

The San Francisco Fed analyst reviewed over 100 categories of goods and services in the PCE index going back to January 1988.

He grouped goods into three primary categories. One which experienced both price and quantity at above or below their predicted value based on previous patterns, was labeled as “demand driven.”

Another category, where price and quantity moved in opposite directions, was labeled as “supply driven,” based on the regular pattern that supply and demand has on prices.

A separate category, where either of the values is close enough to its predicted value that the difference is statistically indistinguishable from zero, was labeled as “ambiguous,” which accounted for the rest of the contributions to the inflation rate.

He then said he rolls the “data window forward one month” and repeats the process. “I iterate this process for each month until I reach the last window of data, which for this Letter begins in May 2012 and ends in April 2022.”

Supply and Demand Problems

Supply and demand factors were found to be almost equal contributors to the acceleration of core PCE inflation, when removing food and energy from the equation.

Shapiro estimates that supply-driven factors have contributed 2.5 percent more than their pre-pandemic average to inflation, compared with 1.4 percent more for demand-driven factors.

However, U.S. consumer demand remains strong due to personal savings and stimulus money saved during the pandemic and also because of low unemployment numbers.

The nationwide labor shortage has forced many firms to boost salaries to keep and attract workers.

“Inflationary pressures will not completely subside until labor shortages, production constraints, and shipping delays are resolved. Although supply disruptions are widely expected to ease this year, this outcome is highly uncertain,” concluded Shapiro.