How Inflation Affects Consumer Behavior

Driven in large part by soaring gasoline prices, inflation hit levels not seen in decades over the past year, according to new data from the Consumer Price Index. Pump prices helped push inflation up to 8.6% for the 12 months ending in May, CNN reports — and there doesn’t seem to be an end in sight.

Such price disruptions will certainly have impacts on consumer behavior. Market watchers have suggested that an “inflationary psychology” is beginning to take hold, which describes a situation in which consumers expect future prices to be higher than they are now, creating less short-term resilience to spending.

While some consumers are willing to spend more to outpace inflation, businesses are also willing to raise wages, raising fears of a “wage-price spiral,” or the so-called self-fulfilling prophecy of inflation.

Inflationary psychology may be just one ingredient propelling a price-wage spiral, says Rory Smead, an associate professor of philosophy at Northeastern who studies the evolution of social behavior. But the situation is manifold and it is difficult to predict how consumers will react to the economy-wide price spike.

“Like everything in economics, you’re dealing with a really complex system,” Smead says. “Sometimes economists focus on one or two aspects of the situation that we can understand; but what could cause inflation in a context could cause deflation into another depending on what might be going on in the background.

Rory Smead, associate professor of philosophy, poses for a portrait. Photo by Ruby Wallau/Northeastern University

Smead says one factor observers might overlook when it comes to current economic conditions is how educated and connected consumers are to economic news today compared to decades past. Social media and the 24/7 news cycle have helped generate information such as consumers develop “widespread inflationary expectations” which, in turn, influence their behavior, says Bruce Clark, professor marketing associate at the D’Amore-McKim School of Business.

“The first question we might ask ourselves is: Do they [consumers] same opinion?” Bruce says, “Are they noticing the prices have changed, and if so, is it from personal experience or from other people telling them?”

A person’s financial situation greatly affects how they respond, he says.

“If you’re fairly well off, inflation can be annoying, but it doesn’t bother you that much,” he says. “You can order a cheaper meal, spend more savings, for example. It can only weigh you down on bigger purchases, like when you go to buy a house.

Bruce Clark, associate professor of marketing at Northeastern University. Photo by Northeastern University

Clark says research shows consumers typically notice price fluctuations on items they’ve purchased recentlyand they buy frequently. You’re more likely to notice a change in the price of coffee, for example, compared to the toothpaste you buy every six months, he says.

And then there’s the price of gasoline – the most visible marker of inflation – which historically plays an “outsized role in how consumers perceive prices in the economy”, so much so that even many many people who don’t drive or buy gas are aware of this, Clark says.

The so-called “forward buying” that characterizes the price-wage spiral mainly concerns items that can be stored, such as certain types of food products. But how much do consumers accelerate their purchases in times of inflation?

“One of the arguments against that is the other that we see in an inflationary environment is that some people may become more uncertain,” Clark says.

Fears that the US economy is heading into a recession may also factor into consumers’ thinking about the future. Some consumers may react by limiting their spending for fear of losing their jobs or reducing their hours, Clark says.

But one thing is certain: once the cycle of inflationary psychology begins, it is difficult for economic policymakers to stop it.

“Even understanding how to fix or design policy around these disruptions can be really, maddeningly complex,” says Smead.

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