10/17/2014 06:13 pm ET Updated Dec 17, 2014

Where Is That Inflation We've Been Waiting For?

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Since the beginning of the great recession policy makers, economists and investors have been waiting for the emergence of a new inflationary cycle. A return to the pre-Volker inflation of the late 1970s and early 1980s, when mortgage rates were as high as 18 percent and the price of bread, milk and meat rose palpably. Inflation then was part of every family's conversation, with President Ford going on national television to ask Americans to "Whip Inflation Now". Fear of resurgent inflation has been a defining element of U.S. economic policy over the last five years, driving federal spending reductions, personal income tax increases, and, just this month, the end of the Federal Reserve's Quantitative Easing program. But that broad-based inflation has not materialized and we are left asking why?

The concerns over heightened inflation are based on sound, traditional economic principals: The U.S. government has run the largest non-wartime deficits in its history, more than a cumulative $6.5 trillion since 2008. In addition, the Federal Reserve has purchased over $3 billion in debt obligations over the same time frame, injecting vast liquidity into the economy. With nearly $10 trillion dollars of stimulus, Keynesians and conservatives alike have had reason to expect some inflation. But facts have a way of complicating things: Inflation has rarely been lower than it is right now. Over the last three years inflation in the United States has been 2.1 percent, 1.5 percent and, thus far in 2014, 1.8 percent. In fact, that last three years have seen the lowest inflation rate in the United States since the early 1960s, a half century ago.

So what explains the low inflation in the face of vast stimulus and are there clues to where that $10 trillion is being felt in the economy? Let's start with the low inflation question. Why is the demand for goods so low in the United States that prices remain near flat? The answer is in what the typical American family is facing in its day-to-day life. Labor force participation, a measure of how many Americans are working or seeking to work, was 66.4 percent in 2007 according to the Bureau of Labor Statistics. Today, that same measure is 62.7 percent. One in every 18 people who considered themselves part of the workforce in 2007 is no longer looking for work. Moreover, those remaining in the labor force continue to face substantial headwinds. In 2007, 8.3 percent of Americans were unemployed or under-employed, today the number is 12.9 percent. In other words, one out of every 12 Americans who had been part of our labor force and fully employed in 2007 is currently out of the labor force, unemployed or underemployed, working part time instead of full time -- one in 12 above and beyond those facing those conditions in 2007.

What does that mean? Again let's look at the typical American family. In 2007 that median family had income of $57,006 according to the Commerce Department, today that median family has income of $52,500. How does that decline of $4500 affect the day-to-day life of a typical American family? It means 5,000 fewer miles driven in a year, two pieces of clothing not bought every month, five pounds of meat and a gallon of milk not eaten or poured every week. The decline in household income means the typical American family is materially worse off in almost all aspects of life. For many families the issues are even more acute. They already don't drive a car, buy clothing or eat meat, for them it is the rent for the year or the heating bill for the winter that has vanished from their incomes.

But the budgetary and monetary stimulus represented by the vast deficits and Quantitative Easing were real and the expectation of inflation reasonable. So where is the stimulus having its inflationary effect? Here is where another set of statistics comes into play. In 2007, before the great recession there were 946 billionaires worldwide, today there are 2,035. In the United States, 16,000 families now hold $6 trillion in net worth, 11 percent of the nation's total, nearly double what they held in 2007. For the first time, being a member of the top .01 percent of U.S. households in terms of net worth requirs having over $100 million in assets, all according to Emmanuel Saez and a team of economists analyzing government income and asset data. One would expect that such vast wealth accumulation would yield inflation for the kinds of luxury goods wealth would buys, and it has. A used crocodile purse for sale online for $135,000, 2000 square foot apartments for $10 million and penthouses at more than $100 million, paintings regularly selling for over $50 million. Contemporary artists setting records uniformly, without differentiation. These kinds of salacious tidbits were once amusing anecdotes, but they are now common. There are currently 472 apartments for sale on the small island of Manhattan for $10 million or more. The typical yearly income of an American family buys fewer than 10 square feet of those apartments, about the space of a guest bedroom bathtub. Nineteen artists set records for the sale price of their work in just two nights of auctions in New York last Spring. On just one website there are 87 used purses fetching $20,000 or more. We are beyond anecdotes; hyperinflation for luxury goods and real estate is ubiquitous.

Why does this all matter? Because if in our search for the missing inflation we come to the wrong conclusion, it doesn't yet exist but will soon be coming, we are likely to make the wrong policy decisions, to begin to fight an inflation that doesn't and likely won't exist for all but the tiniest group of Americans. The post-recession policies we are putting in place already reflect that misunderstanding, including a nearly $1 trillion reduction in the federal budget deficit and the end of Quantitative Easing by the Federal Reserve. Those fundamental economic policy shifts don't just matter to policy experts, they have meaning in the lives of countless Americans. The ending the Social Security payroll tax reduction, elimination unemployment insurance extensions, and last February's reduction in Food Stamp benefits all share a focus on demand suppression in the middle and bottom of our national economic pyramid, ignoring the facts of underemployment and diminished household income. Our policy makers need to understand that broad-based inflation isn't here, and given current economic circumstances, there is no reason to believe it will be. We need to move from the expectation of high inflation to an expectation of diminished demand and build national economic policies which reflect what families at dining tables across America know: our problem isn't inflation, it is that a half decade since the official end of the Great Recession the typical American family is still worse off.