Commerce Department's Friday report also showed that December consumer spending dropped 0.6%, with a decline in purchases of clothes, electronics, cars and clothing. Some shoppers might have been discouraged by higher prices, as well as a wave of omicrons that prevented many Americans from travelling, eating out, or visiting entertainment venues.
Nevertheless, incomes increased 0.3% last month which is fuel for future spending.
Inflation has been a serious political problem for President Joe Biden and Democrats in Congress. It has decimated household budgets and erased last year's healthy wage gains. The Federal Reserve signaled Wednesday that it will raise interest rates multiple times this calendar year, starting in March, to control accelerating inflation.
Economists predict that consumer spending will remain weak and growth will slow to 1.5% annually in the first three months. This would be a drastic drop from the 6.9% annual rate for the last three months in 2021.
The University of Michigan reported Friday that a measure of consumer sentiment fell to its lowest point in over a decade. Inflation is a major concern for consumers.
Economists still believe that steady job growth and higher savings will eventually drive more spending, particularly if the omicron waves continue to fade.
Joshua Shapiro (chief U.S. economist, MFR Inc.) stated that "you're going to witness the labor market continuing to heal" and that, pandemic permitting the consumer will have enough firepower for increased spending at a reasonable pace as the year progresses.
Analysts still believe inflation will slow down this year, but it will likely stay high as wages and rents rise.
The core price index, which excludes volatile food and energy, rose 4.9% in 2013. This is the largest increase since 1983. This was an increase of 4.7% over the November core price rise.
Prices rose 0.4% from November to December, compared to 0.6% in October and November. For the second consecutive month, core prices increased 0.5%.
The economy is growing at its fastest rate in decades and the number of jobs created last year was the highest for five years. The rebound came so quickly after the pandemic shut downs that many companies were left with less workers and supplies. The government reported Wednesday that the 2021 increase in spending on electronics, autos and other goods was the largest since 1946.
Jerome Powell, Fed Chair, stated Wednesday that in addition to raising interest rates, the Fed would reduce its $8.9 trillion bond holdings. This is another step that will likely tighten credit and slow down spending, potentially weakening the economy.
Powell admitted that inflation has been "slightly worse" over the past month at a news conference. Powell warned that prices have risen to a wider range of goods and services, after initially impacting certain sectors of the economy like the factory-made home products.
Powell said that the Fed is now more focused on whether rising wages are driving inflation by forcing companies into higher labor costs to pay for it. This "wage-price spiral", which the United States hasn’t seen since the 1970s can make it difficult for inflation to cool.
A separate report released Friday showed some indications of cooling. According to the Labor Department, workers' wages and benefits increased by 4% last year. This was the largest increase in 20 years. However, over the last three months, the growth slowed to 1.3% to 1%. This was even worse for a category which includes hotel and restaurant workers.
Powell stated that the Fed's decision to shift its policy towards higher interest rates was due to a sharp increase in wages and benefits reported in November. Rising wages are good for employees but can increase inflation if not offset by efficiency gains.
Friday's inflation report by the government was based on its personal consumption expenditures index. Although the consumer price index is a more well-known indicator, the Fed prefers to use the PCE when setting its interest rates. The PCE index tracks actual consumer purchases each month while the CPI follows an established market basket.
The government reported earlier this month that the CPI rose 7% last year. This is also the fastest pace in almost four decades.
McDonald's announced on Thursday that, despite a healthy sales growth, the company's higher food and paper prices and the need for more workers to keep them happy led to lower profits. The company had also raised prices by 6% last year.
Procter & Gamble also stated last week that they plan to increase prices for detergents such as Gain, Tide, and Downy, as well for personal care products. Procter & Gamble anticipates that prices will rise for chemicals and other commodities in the coming year.
Some Americans may not be willing to spend because of higher prices. However, the drop in consumer spending last month is expected to be temporary. As a result of the dramatic increase in omicron infection, Americans already show signs that they are returning to movies and restaurants.
JPMorgan Chase reports that spending on its credit cards for travel, hotels and entertainment has increased this month after falling in December. In states where COVID-19 has fallen the most, spending on credit cards for hotels, travel and entertainment venues has increased more.