Inflation's Fiscal Impact on American Households
The post-COVID price surge has reignited interest in inflation’s impact on American households. Even if anticipated and with full market adjustments, inflation affects households through its interaction with the fiscal system, which is the focus of this paper. We run the 2019 Survey of Consumer Finances (SCF), assuming different rates of inflation, through the Fiscal Analyzer (TFA) — a life-cycle, consumption-smoothing tool that includes all major federal and state fiscal programs. Before doing so, we adjust the SCF data to neutralize non-fiscal effects. With the adjusted data and all fiscal policies turned off, TFA delivers the same life-cycle spending paths, household by household, for any rate of inflation. We next run our adjusted SCF data set through the TFA, but with all fiscal policies activated and calculate, for alternative inflation rates, the change in expected (across survivor paths) lifetime spending. A permanent shift in the rate of inflation from zero to 10 percent reduces median lifetime spending by 6.09 percent. This impact is smaller — 4.99 percent — when fiscal COLAs are timely, rather than lagged. But the big stories are the progressivity of inflation’s increase in net taxation, its age pattern, and its heterogeneity. The 15 percent median lifetime spending loss for the top 1 percent from 10 percent inflation is roughly twice that for the bottom quintile. Middle-age households are hit far harder by inflation largely because they have more asset income, which, with inflation, is taxed at a higher effective rate. As for heterogeneity, the 25th percentile of spending changes is a reduction of 9.60 percent. The 75th percentile change is still a reduction in spending, but just 4.07 percent. The maximum impact is negative 64.9 percent and the maximum positive impact is 46.4 percent. In short, our fiscal system is far from inflation neutral, making the distribution of welfare highly sensitive to significant, ongoing inflation.