No, It's not Inflation: It's the Cure

The Paradox of Progress: Why Lower Inflation Hasn’t Eased Financial Stress

While the headlines celebrate a significant drop in inflation, with the Consumer Price Index (CPI) falling well below the past years’ staggering highs, the Census Pulse Survey reveals an unsettling reality: more people are feeling financially stressed - and they aren’t differentiating their cost of living from ‘CPI’. This disconnect can be explained by the complex interplay of rising interest rates, stagnating disposable income, and dwindling savings rates. These dynamics illustrate a bittersweet economic truth—while Federal Reserve policy has worked to tame inflation, the costs of this success are painfully evident in household budgets and broader economic stability.

Inflation Is Down, But Financial Stress Is Up

In 2022 & 2023, inflation surged, eroding purchasing power and dominating public discourse. The Fed's aggressive interest rate hikes have since curbed inflation, bringing it closer to target levels. Yet paradoxically, many Americans feel less financially stable today than they did a year ago. Why?

The rise in interest rates has directly impacted debt servicing costs. Mortgages, auto loans, and credit card debt have all become more expensive, offsetting any perceived relief from slower price increases. Disposable income growth, which could have improved as inflation cooled, has instead stagnated, particularly in the second half of 2024, as households allocate more of their income to debt payments.

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Compounding this is a sharp decline in savings rates. Many individuals and families dipped into their savings during the high-inflation period to make ends meet. Now, with interest rates high and savings depleted, fewer financial buffers are available to cushion economic shocks, leaving households feeling precarious despite the cooling CPI.

The Bitter Pill of Stabilization

The Fed’s tight monetary policy has been widely lauded for avoiding an economic “hard landing.” By engineering a so-called “soft landing,” the Fed managed to tame inflation without plunging the economy into a deep recession. But this feat is not without casualties. For those carrying significant long-term fixed-rate debt, inflation can paradoxically act as a friend, reducing the real burden of repayments through wage-price spirals. The cure for inflation—higher interest rates—is a bitter pill, especially for debt-heavy households and businesses that haven’t locked in long-term borrowing costs.

Nowhere is this pain more evident than in the restaurant industry, which has seen high profile bankruptcies spike to levels not observed since the pandemic. These closures are driven by structural challenges in the industry including digitization, trade-area reconfiguration and higher costs. They are now baked into the economy driven by the inflation surge which has settled at a new level of elevated operating costs and interest rates, creating a perfect storm for small businesses operating on tight margins.

The Fed’s Conundrum: What Comes Next?

Looking ahead, the Fed faces a complex calculus. Inflation may have cooled dramatically, but the central bank’s job is not done. Recent months show that getting inflation to the Fed’s stated target level doesn’t leave much room for looser monetary policy (lower rates). That doesn’t bode well for the prospect of lower rates even though they continue to weigh heavily on disposable incomes and business stability.

External pressures further complicate the Fed’s decision-making. Potential tariffs, labor shortages exacerbated by likely immigration restrictions, and tax decreases are all potentially inflationary which make it unlikely the Fed will pursue significant rate cuts beyond the anticipated December adjustment.

Conclusion: A Fragile Balancing Act

While the Fed’s efforts have been hailed as a success in avoiding a hard landing, the journey is far from over. For households grappling with high debt and stagnant disposable income, the current economic environment feels anything but stable. The Fed must navigate a delicate balance between maintaining progress on inflation and acknowledging the mounting financial strain on everyday Americans. For businesses facing uncertainty it’s important to be prepared for multiple scenarios so you’re not caught flat-footed when the environment shifts unexpected. It’s never been more important to be data-driven and nimble.

1 Disposable income & debt charts were sources from the Bureau of Economic Analysis

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