What's So Great About 2 Percent Inflation?

By Mike Maharrey, Money Metals Exchange

Don’t be fooled when you hear “inflation is coming down.” That’s not the plan and it never was.

The fact is price inflation was up in July.

And it will be up in August.

And it will be up in September.

That’s because rising price inflation is the Federal Reserve’s stated policy.

Remember, the target is 2 percent annual price inflation. That means the plan is for prices to generally rise by 0.16 percent every month. 

And they’re not even there yet. 

Breaking Down the July CPI

Prices rose 0.2 percent in July, having contracted by 0.1 percent in June, according to the latest data from the BLS. That dropped the annual CPI under 3 percent (2.9%) for the first time since March 2021.

Stripping out more volatile food and energy prices, core CPI increased by 0.2 percent dropping the annual core CPI to 3.2 percent. 

You will note that none of these numbers actually is 2 percent.

You should also note that price inflation is worse than the government data suggest. The government revised the CPI formula in the 1990s so that it understates the actual rise in prices. Based on the formula used in the 1970s, CPI is closer to double the official numbers. So, if the BLS was using the old formula, we’re looking at CPI closer to 6 percent. And using an honest formula, it would probably be worse than that.

Digging deeper into the numbers, shelter costs continue to drive the total CPI higher. The shelter index was up 0.4 percent month-on-month.  The energy index was unchanged over the month, after declining in the two

preceding months. The index for food increased 0.2 percent in July, as it did in June. The food away from home index rose 0.2 percent over the month, and the food at home index increased 0.1 percent.

We’re seeing deflation in new and used vehicles as tapped-out consumers slow spending on big-ticket items.

Further CPI cooling increased optimism for a September interest rate cut. The mainstream consensus seems to be that the Fed is now locked and loaded. As one analyst told CNBC, “Today’s CPI print removes any lingering inflation obstacles that may have been preventing the Fed from starting the rate-cutting cycle in September.” 

In other words, the Fed has reined in price inflation enough to plausibly resume its inflationary policies. 

And make no mistake, inflation is the policy. 

What’s Magical About 2 Percent?

Have you ever wondered why 2 percent is the price inflation target?

Because they made it up.

That’s the honest answer.

They pulled 2 percent out of thin air and anointed it the “perfect” amount of price inflation.

That’s it. There’s no science. There’s no formula proving that 2 percent is the Goldilocks of inflation rates. There’s no proof of any kind. People just said “2 percent” long enough and loud enough to make it “true.”

But think about what this actually means. The stated policy is to devalue the currency by 2 percent every year. That means you lose 10 percent of your purchasing power every five years and 20 percent each decade.

It sounds less benign when you put it that way, doesn’t it?

And that’s the point.

The government wants inflation but it doesn’t want you to notice. 

You see, the government needs inflation. It needs to be able to expand the money supply in order to maintain its borrowing and spending habits. It needs the central bank to create money out of thin air and monetize the debt. Easy money is the fuel that powers big government, and easy money means price inflation.

This is precisely why FDR and Richard Nixon severed the dollar from the gold standard. The government couldn’t fund its wars and welfare with sound money. 

So, the government constantly walks a tightrope. It wants as much inflation as it can get, but it doesn’t want you to notice.

That was the real problem with the price inflation after the unprecedented monetary stimulus during the pandemic – you noticed. 

They tried desperately to keep you from noticing. They insisted inflation was transitory. But when they could no longer pedal that lie, they were forced to raise rates to get the inflation dragon under control. But don’t think for one second that they want to kill it. They need the inflation dragon alive but collared.

The problem is that controlling a dragon is easier said than done.