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United States
OpinionComment
Jason Furman
Jason Furman

Macroscope | As US inflation hits a 39-year high, how did forecasters get it so wrong?

  • Everyone from the Fed to the IMF predicted core PCE inflation in the US would remain well under 4 per cent in 2021
  • Some blamed the Delta variant for stalling recovery, but the real error was in not taking economic models seriously enough

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Fed chairman Jerome Powell blamed the unexpected Delta variant of the coronavirus for causing inflation to rise beyond all estimations in 2021. Photo: AFP/Bloomberg
Jason Furman
In 2008, as the global financial crisis was ravaging economies everywhere, Queen Elizabeth, visiting the London School of Economics, famously asked, “Why did nobody see it coming?” The high inflation of 2021 – especially in the US, where the year-on-year increase in consumer prices reached a four-decade high of 7 per cent in December – should prompt the same question.

Inflation is not nearly as bad as a financial crisis. And whereas financial crises may be inherently unpredictable, forecasting inflation is a staple of macroeconomic modelling.

Why, then, did almost everyone get the US inflation story so wrong? A survey of 36 private-sector forecasters in May revealed a median inflation forecast of 2.3 per cent for 2021 (measured by the core personal consumption expenditures price index, the Federal Reserve’s de facto target gauge).

As a whole, the group put a 0.5 per cent chance on inflation exceeding 4 per cent last year – but, by the core PCE measure, it stands at 4.5 per cent.

The Fed’s rate-setting Federal Open Market Committee fared no better, with none of its 18 members expecting inflation above 2.5 per cent in 2021. Financial markets appear to have missed this one too, with bond prices yielding similar predictions. Ditto the International Monetary Fund, the Congressional Budget Office, President Joe Biden’s administration, and even many conservative economists.
Some of this collective error resulted from developments that forecasters did not or could not expect. Fed chair Jerome Powell, among many others, blamed the Delta variant for slowing the reopening of the economy and thus driving inflation higher.
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