January showed inflation still climbing. Now, economists say the damage done by the conflict in Iran may be hard to overstate.
By Yulia Almazova
Inflation continued to rise in January. Then Iran happened. With the recent surge in gas prices due to the ongoing conflict, what looked like a manageable uptick could spiral into something much worse.
Over the past year, core personal consumption expenditure rose to 3.1% and now sits far above the Fed’s 2% target. The headline PCE number rose by 2.5% from the same period last year and is now at 2.8%. While personal income did accelerate month-over-month from 0.3% to 0.4%, personal spending held flat at 0.4% with real PCE Real PCE rising by only 0.1% – people were paying more dollars for roughly the same amount of goods and services.
“We are in an environment now where gasoline prices are rising very dramatically; inflation is likely to take off, and we’ve got an economy that’s losing jobs – that is a toxic environment for consumer spending,” said James Knightley, chief international economist at ING Financial Markets.
The report and weak jobs data from earlier this month puts the Fed in a bind. Rising inflation makes it increasingly difficult to cut interest rates while potentially fragile demand is calling for them. The upcoming The Federal Open Market Committee meeting is scheduled to take place next week and expert economists say that the Fed is not likely to lower rates at least until September.
January’s data reflects American consumers on a fragile footing – a timestamp of the economy, which has now accelerated further into turmoil as the Iran war enters its third week.
“January headline PCE was 2.8%. We expect it to get to 3.5% by May,” said Russell Price, chief economist at Ameriprise Financial. “This conflict’s impact will be harsher than Ukraine in 2022.”
Russia’s invasion of Ukraine three years ago caused energy and food prices to spike sharply; however, before the end of that same quarter, prices began stabilizing. Economists worry that the current financial system – already strained by inflation and a weakened job market – might not be able to withstand the detrimental consequences from the war in the Middle East.
“In 2022, the consumer was in a much better fundamental position. The economy was adding jobs and not losing them” said James Knightley, “there is not the same consumer backdrop that can keep the economy motoring along anymore”.
Until January, Trump’s tariff war had an unexpectedly mild effect on prices, but the PCE number in the latest report showed that companies started to pass down their production costs to consumers by raising prices. Now that he has started a geopolitical war with Iran, the prices are expected to skyrocket. Roughly 20% of global oil and over 30% of global seaborne crude oil passes through one of the world’s largest trade route checkpoints, located in the Strait of Hormuz. The Strait has been effectively closed to commercial traffic since the beginning of the conflict, cutting off the world’s largest oil supply chain and sending gas prices into vertical acceleration.
“If prices rise, but we don’t have the spending power, we cannot maintain our lifestyle,” warned Knightley.
Healthcare and housing costs took up most of American spending on services in January. Spending on goods fell by 0.4 percentage points from December. The two biggest declines were gas and automobiles, which lost $15.3 billion and $29.3 billion in spending respectively. American consumers had been holding off on oil products even before the Iran war began.
With a summer wedding on the horizon, every dollar counts for Allison Gerspacher, 25, a science teacher and varsity volleyball coach at a middle school in Port St. Joe, Florida. She has been carpooling to work with colleagues for a few months now.
“I was finally feeling like I had a handle on things financially,” she said. “The wedding is expensive enough, but we were prepared for it. Now I am just anxious and don’t want to have to tap into our savings.”