By Nathalie Voit

Massive government spending during the COVID-19 pandemic is at least partly to blame for the surge in U.S. inflation, researchers from the Federal Reserve Bank of San Francisco said in a study published on March 28.

“Fiscal support measures designed to counteract the severity of the pandemic’s economic effect may have contributed to this divergence by raising inflation about three percentage points by the end of 2021,” wrote Òscar Jordà, Celeste Liu, Fernanda Nechio, and Fabián Rivera-Reyes in the San Francisco Fed’s weekly Economic Letter.

Not only did pandemic stimulus aid contribute to a 3% spike in U.S. inflation, but inflation in the U.S. is much more severe than in other countries that similarly passed COVID-19 economic assistance programs. This is because the scope of the federal pandemic response in the U.S. was much greater than in other OECD (Organisation for Economic Co-operation and Development) economies like Canada, Denmark, Finland, France, Germany, Netherlands, Norway, Sweden, and the United Kingdom, the authors said.

“Though many of the pandemic distortions are common to other countries, we show that U.S. inflation has risen more quickly and increasingly diverged from inflation in other OECD countries. In seeking an explanation, we turn to the combination of direct fiscal support introduced to counteract the economic devastation caused by the pandemic.”

According to the study, U.S. core CPI inflation by early 2021 grew from less than 2% to above 4%, where it remained until the end of the year. In contrast, the OECD average rose from only about 1% to 2.5% by year’s end.

The findings can be explained by the sheer amount of government spending during this period. Pandemic-related fiscal support measures like the CARES Act of March 2020 and the American Rescue Plan Act of March 2021 unleashed nearly $4 trillion of federal money into the U.S. economy. Overall, about $6 trillion in emergency spending was approved by Congress in just two years.

Direct fiscal payments and other monetary support helped fuel inflation by raising U.S. households’ real personal disposable income. In contrast, in places where pandemic support measures were moderate, real disposable personal income increased only moderately.

The authors conclude the stronger U.S. fiscal response relative to other OECD nations explains the higher levels of U.S. inflation.

“The United States is experiencing higher rates of inflation than other advanced economies. In this Economic Letter, we argue that, among other reasons explored by the literature, the sizable fiscal support measures aimed at counteracting the economic collapse due to the COVID-19 pandemic could explain about three percentage points of the recent rise in inflation,” the researchers wrote.

“However, without these spending measures, the economy might have tipped into outright deflation and slower economic growth, the consequences of which would have been harder to manage,” they added.

Americans, flush with cash and eager to spend, consumed more than an environment still recovering from pandemic-related labor and raw materials shortages could sustain. This imbalance between supply and demand, in turn, helped drive the current inflationary spike we are dealing with today.