Inflation Usually Hits America’s Poor Hardest. Not This Time

The Economist reports that between mid-2020-2022 America’s lower earners saw cumulative inflation of 13.5% whereas middle earners saw 15.5%. The difference was largely driven by car prices and fuel expenditures.

“…Middle-income earners, not the poorest, appear to have borne the brunt of America’s current bout of inflation. Research by Xavier Jaravel of the London School of Economics has yielded a distinctive shape—an inverted-U curve—that illustrates the distributional effects of inflation in America from mid-2020 to mid-2022. For the lowest earners, inflation was about 13.5%. For those in the middle of the spectrum, inflation was closer to 15.5%. The wealthiest faced inflation of about 14%. Since 2020 nominal wages have increased at an average annual rate of about 4.2% for Americans as a whole. The lowest-earning quartile, however, has seen the biggest gains, with their wages up by 5.3% on average during the same period….”

Economist Staff, “Inflation usually hits America’s poor hardest. Not this time,” The Economist, February 2, 2023, https://www.economist.com/graphic-detail/2023/02/02/inflation-usually-hits-americas-poor-hardest-not-this-time

Inflation usually hits America’s poor hardest. Not this time

It is often seen as an axiomatic truth about the pernicious effect of rising prices: the lowest earners suffer the most. The calculation is straightforward. Those on low incomes must spend a greater share of their earnings on food and rent, so when the prices for those items soar, they have less left over for everything else. The rich and the middle class, by contrast, are better insulated. This pattern has been observed over many decades, in many countries (see left-hand chart). But America’s current bout of inflation may be an exception to the rule: middle-income earners, not the poorest, appear to have borne the brunt of it (see right-hand chart).

Research by Xavier Jaravel of the London School of Economics has yielded a distinctive shape—an inverted-U curve—that illustrates the distributional effects of inflation in America from mid-2020 to mid-2022. During that time consumer prices rose by an average of 15%. Yet that average masked considerable variation. For the lowest earners, inflation was about 13.5%. For those in the middle of the spectrum, inflation was closer to 15.5%. The wealthiest faced inflation of about 14%. That the rich suffered less is unsurprising. But why have the poor also been somewhat sheltered?

The answer is in large part down to Americans’ reliance on cars. Mr Jaravel used annual expenditure shares from consumer surveys to work out who spends how much on what. Middle-income earners, he found, spend more than others on both petrol and vehicles relative to their wages. That may reflect school runs, longer commutes by car to work, more frequent trips to shops and the like. In the two years that he examined, inflation was extreme for petrol (the price of which more than doubled) and cars (used-vehicle prices rose by about 50%). By extension that hurt the middle class most. A further breakdown of the data reveals even more nuance: at all levels of income, rural Americans faced higher rates of inflation than their urban compatriots because they spent more hours behind the wheel.

A difference of two percentage points in inflation over the course of two years may not seem like much. But it comes on top of a divergence in nominal wage growth that has also, unusually, benefited Americans at the low end of the income scale. Since 2020 nominal wages have increased at an average annual rate of about 4.2% for Americans as a whole. The lowest-earning quartile, however, has seen the biggest gains, with their wages up by 5.3% on average during the same period. Slightly lower inflation makes those gains even bigger in real terms.

This suggests that the combination of a tight labour market and unevenly distributed inflation has made America a little more equal over the past few years, a striking difference with how things normally play out. Unfortunately, it may also be a blip. Wage growth has started to soften as the economy slows. Food inflation has become more severe. On both counts low-income earners are the most vulnerable. The sorry old truth that inflation hits the poor hardest still applies—just not always.