September 26, 2023

Weekly EconMinute—Price levels versus Inflation

In this week’s EconMinute, we’re talking about price levels versus inflation.

Since 2021, inflation has been a major concern for consumers and businesses. Thankfully, as of recent months, inflation has dipped to around 4% (as measured by the year-over-year change in the Consumer Price Index).

This represents a huge improvement over the 8% we were seeing in the Summer of 2022 and is within reach of the Bank of Canada’s 1-3% target range. Furthermore, the Bank believes a sustained return to the target is in sight.

However, this overlooks one important reality: prices may be rising more slowly but things are not getting any cheaper. This is a difference between inflation (i.e., price changes over time) and price levels.

But how much more expensive are things now versus what they would have been in the absence of COVID and other global instability? Our best (albeit imperfect) guess at what would have happened is simply that prices would have continued to grow at the same rate they were growing before 2020. We answer this question with respect to the Alberta market, though the results generally hold across provinces.

So what did the results reveal?

  • Overall, the “basket” of consumer goods (meant to represent a typical household’s spending) is 15% more expensive than it was at the outset of 2020. 
  • In more normal times, we estimate this basket would have become just 6% more expensive. This means the price level is now 9% higher than it would have been.
  • Prices for transportation have increased the most (+22%)—as consumers have been hit hard at the pump—while clothing has actually become slightly cheaper (-3%).
  • As for the difference in prices versus what we would expect, four spending categories show a large divergence versus previous trends while four do not:
    • Alcohol & tobacco, home-related purchases, clothing, and health & personal care are all within the realm of where we would expect their price levels to be.
    • Meanwhile, shelter, transportation, food, and recreation & education all sit at a price level much higher (~10% or more) than they would otherwise have been.
    • Importantly, these items also represent some of the biggest spending categories for consumers.

This has important consequences on Albertans. Though getting inflation back down to the 2% target is an important goal and its achievement one to celebrate, it’s worth remembering that even when inflation returns to normal, that doesn’t mean that things will become more affordable. It means prices will continue to rise—just at a slower rate.

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