Pandemic-Induced Price Increases in the Real Economy Reversing

There is no denying that the outbreak of Covid-19 has caused major disruptions, resulting in a significant increase in prices. While this has been a difficult time for many, it is important to remember that we will get through this together.

The world economy experienced a sudden 'whack' to its normal workings in 2020, as supply chains snarled and demand patterns shifted. This culminated in shortages of goods and inflated supply-chain costs. Fast forward to 2023, and many of these dramatic moves are shifting into reverse.

The big question now is whether price drops in the real economy can provide some welcome relief from inflation or whether they could presage an unwelcome recession. Some of the most noteworthy drops are listed below.

Lumber prices have been on a roller coaster ride in recent months, surging to an all-time high earlier this year before collapsing to levels last seen before the pandemic. This volatility is emblematic of the post-pandemic price dynamic, with many commodities seeing sharp price swings as the world adjusts to the new reality.

The cost of container shipping has also increased as US consumers order more goods from China. These costs are now close to their pre-Covid levels, with Flexport Inc.'s Ryan Petersen forecasting a "great recession" in freight.

The price of pallets used to transport goods climbed during the crisis, but is now coming down. According to the Producer Price Index for wood containers, prices are back to levels last seen in early 2022, after hitting a record high last April.

The price of used cars has been a major contributor to inflation in the US since the pandemic began. However, the Manheim US Used Vehicle Value Index is now dropping, and is back to September 2021 levels.

The cost of plastic has soared to a record high during the pandemic, with the building blocks for everything from food packaging to children's toys becoming a perhaps underappreciated source of inflation. Now, the cost of polyethelene, polyproplene and various other polys has come crashing down.

Meatpacking margins reached a record high in the years after the Covid-19 outbreak as more people prepared meals at home and slaughterhouses struggled to staff up. However, these margins are now back to pre-pandemic levels, with many of the world's biggest meatpackers signaling an end to these lofty profits.

US house prices have softened after a period of strong growth during the pandemic. However, they are still well above where they were before March 2020. There is significant debate about how far prices could fall from here.

There are some signs that disruptions are beginning to ease, with wheat prices coming down following Russia's invasion of Ukraine. Mississippi barge prices that soared during an historic drought in the Midwest have normalized, and even oil has fallen from its all-time high.

Even if prices for many real world things are starting to come down, it doesn't necessarily mean that the entire real economy is normalizing. The sharp rises and falls in both demand and the price of goods often lead to more volatility further down the road, as producers overreact to these shifts.

It's worth noting that a drop in producer prices doesn't necessarily mean that consumer prices will fall rapidly. One reason for this is that strong end-demand, combined with above-average wage growth, may give companies the ability to keep prices high for many goods.

The Federal Reserve has so far played down the impact of rising prices for goods and services. In December, Fed Chairman Jerome Powell noted that a substantial component of the Fed’s preferred inflation measure is non-housing-related services, which have remained firm. If these categories are immune to the ups and downs of the physical supply chain, then the path to defeating inflation may take a long time.