Who’s to blame for higher prices?

Retailer Bottom Line: Most of the everyday higher prices we pay as consumers are driven by the services side of the economy. Over the past 30 years, prices for services like healthcare and financial services have risen by more than four times the price of goods. Meanwhile, competition and transparent pricing have kept the prices of goods in check. 

Inflation has been in the news a lot lately. But an important point that often gets overlooked is that inflation is primarily a services phenomenon. 

Has the price of goods increased? 

The prices of goods haven’t increased as much as most services. One dollar of a comparable basket of goods purchased in the 1990’s would only cost you about $1.28 today. Over that same period, according to the U.S. Bureau of Labor Statistics, median usual weekly nominal (not-inflation adjusted) earnings for wage and salary workers have more than doubled. Broadly speaking, a basket of goods purchased today requires a smaller share of the median worker’s weekly earnings than it would have 30 years ago. 

NRF analysis of durable goods prices (long-lasting products such as furniture, electronics, home appliances etc.), shows they cost about 70% of what they did 30 years ago. Unbelievably, a $100 basket of durable goods purchased in 1996 would only cost you about $71 today.   

Why are consumers feeling the pinch? 

Consumers feel pressure because essential services make up a growing share of household budgets. In the 1960’s we spent more on goods than we did on services. Today, services represent roughly two-thirds of total personal consumption expenditures. Some of that has been driven by changes in our lifestyle choices, but another important factor is that services have simply gotten more expensive and now take up a significant proportion of our household budget. 

In case you’re wondering if this longer-term phenomenon is relevant to prices today, let’s look at inflation over the last three years. The chart below shows 3-year inflation growth by category. Almost all services categories have experienced higher inflation over the near-term than goods. Financial services and insurance saw a 21.1% increase in inflation since three years ago, while housing and utilities saw 13.3% and transportation services 12.4%. The only goods category that’s high up the list? Gasoline and energy goods, which should come as no surprise.  

It’s not just over a three-year period either. Over five years, over seven years and over most time periods, services inflation has tended to run hotter. Many of these services categories comprise essential spending (housing, healthcare, insurance, e.g.). Housing and utilities prices have increased 30% over the last five years, for example. Financial services and insurance are up 33% over the same period. These are big ticket items whose prices are rising fast, creating challenges for spending across other categories. 

What’s to blame for higher prices? 

When the subject of affordability comes up, retailers often appear in the crosshairs. After all, when we think about shopping, we tend to think about retail businesses. But the reality of the matter is that over time, many retail goods are getting cheaper as a share of our wallet. Additionally, retailers generally face intense price comparisons and competition, which keeps pricing in check and margins low. If we look at grocers as an example, the average net profit margin of publicly traded U.S. grocers is about 1.3%, which is significantly lower than profit margins for most other businesses. 

The chart below illustrates profit margins for select major sectors in the U.S. economy. Retailers generally survive on lower profit margins than many other U.S. industries such as pharma (18.5%) and software (29.9%). 

Not only is inflation running hotter on the services side of the economy, both in the short term and in the longer term, the profitability of many businesses on the services side of the economy is much greater, illustrating more robust pricing power. When we have the debate about affordability, it’s important to have some context on which parts of the economy are creating issues for consumers.