Why prices are never going to come back down

People sometimes ask me when prices are going to “come back down” to what they were pre-pandemic. I hate to say it, but the short answer is: probably never.

For example, if a slice at your local pizza joint cost a buck back in 2019 and it’s $1.50 today, it’s likely never going back, even if “99¢ PIZZA” is still literally emblazoned on the eatery’s awning. The nation’s premier pizza-inflation-fighting agency, the Federal Reserve, is not really trying to get prices to fall. The Fed wants prices to grow a little less quickly than has been the case in recent years, but grow nonetheless.

If that slice is, say, $1.53 by this time next year, the Fed can reasonably declare mission accomplished.

None of this is particularly intuitive or satisfying. But here’s the basic idea:

In the modern era, we’ve almost never seen price growth turn negative in the United States. Still, it’s not obviously silly to think big price declines might be possible. We’ve all seen prices for plenty of individual products swing up and down before.

This is quite common after an unexpected shock or supply disruption — e.g., last year, bird flu killed millions of chickens, and egg prices spiked; as flocks were replenished, prices fell back down. Same with, say, a hurricane knocking out an oil refinery and causing gas prices to temporarily rise.

So, individual product prices might fluctuate. But over the long run, the overall price level across an economy — basically, the average price of all the things consumers buy — still trends upward. That’s by design.

Economists generally consider an upward trend in prices a good thing, as long as it’s happening at a modest, steady and predictable pace. Some limited level of price growth is believed to help facilitate economic expansion, reduce the risk of recession, and help businesses and consumers plan. For these reasons, for many years, the Fed has targeted annual price growth of 2%. That is, the Fed wants prices to be growing, just a little.

In fact, if prices overall are falling — or if inflation is so minuscule that prices look to be at risk of falling soon — it can mean an economy is in serious trouble.

Why? Among other things, when prices are falling (known as “deflation”), people hold off on making purchases because they keep expecting prices to drop even further. No one wants to be the chump who bought a new phone or winter coat today only to see its price slashed tomorrow.

Delaying purchases when you expect prices to drop is a rational calculation for an individual consumer. But if everyone stops buying things simultaneously, the economy falls into recession. While consumers are waiting on the sidelines, stores can’t sell their wares, so they lay off workers, who in turn cut back spending even more, which leads to more sales declines, and so on.

Japan’s “lost decade” beginning in the 1990s is largely the story of deflation getting entrenched. More recently, Chinese government officials have been freaked out by official data showing falling prices and have insisted that “there is no deflation in the Chinese economy, and there will be no deflation in the future.” Here in the United States, the last time we had a sustained period of falling prices (at least by some headline metrics) was the Great Recession.

Besides the risk of recession, there’s another reason it would be mechanically difficult for overall U.S. prices to fall back down: Wages have risen, too.

Maybe they haven’t risen enough, but they are going up. By some measures, wage growth seems to be catching up to consumer price growth. And labor is also a significant input into the stuff you buy.

In other words, the vendors who sell you pizza, mow your lawn or cut your hair would have difficulty returning to the retail prices they charged a few years ago, given that their own cost structures have changed. Ingredients and other materials have gotten more expensive, and they’re paying their workers more.

Again, I realize none of this is a satisfying answer. Even if the prices you pay are always trending upward on average, they’re usually growing so slowly that you have time to get acclimated to the new levels. Over the past few years, prices rose so fast that you’re probably still experiencing constant sticker shock. Most people have a mental model of how much a weekly grocery bill or dinner out “should” cost, and it’s not matching up with reality.

Pundits have sometimes struggled to understand why consumers remain so mad about the economy even as inflation has slowed. Maybe the answer is that Americans don’t want slower inflation; they want deflation — which (for good reason!) no one in charge is trying to achieve.