Why Your Cost of Living Is Never Going Back to Normal

The S&P 500 is currently sitting near an all-time high, with equity traders treating the closure of the world's most critical energy choke point as just another dip to buy. Buying the dip has become such a winning strategy that dips barely happen anymore. Meanwhile, US consumer sentiment has fallen to a 74-year low — more miserable than during the assassination of JFK, the 1973 oil embargo, September 11th, the global financial crisis, and the pandemic.

The immediate cause is the closure of the Strait of Hormuz, which shut down transit of roughly 20 million barrels of oil a day — about a fifth of global supply. Brent crude has been pushed above $125 a barrel, and as oil prices feed directly into food, fertilizer, and shipping costs, that increase is rapidly working its way into everything consumers buy. Politicians would like to blame the problem entirely on geopolitical bad luck. But several highly credible economists had been warning that a surge in inflation was already in the pipeline long before the first missile was fired. The war merely exposed the problem.

In the 1960s, economist William Baumol asked why a string quartet playing Beethoven should be paid more today than a hundred years ago. The instruments, sheet music, and number of musicians haven't changed, and their productivity hasn't improved. The answer: the rest of the economy became more productive, so if you didn't pay musicians more, they'd quit and work elsewhere. This is Baumol's cost disease: labor-intensive services resistant to productivity gains must still pay rising wages to compete with other sectors.

The classic examples are education and healthcare, both highly labor-intensive and provided in person. As populations age, the incidence of neurodegenerative diseases and complex comorbidities rises exponentially. Despite what tech elites claim, elderly patients require human carers — Japan has spent billions on healthcare robotics, yet only 2% of caregivers regularly use them. Because carers can work in other productive sectors, you must pay them steadily higher wages to maintain the same level of care. You're paying more and more for the string quartet, except the quartet is your entire healthcare system and the audience is getting older by the day.

This locks governments into massive structural deficits. In the United States, the One Big Beautiful Bill Act is estimated to add roughly $4 trillion to the national debt over the next decade. The Social Security trust fund is expected to run dry in 2033, and when that happens, politicians will almost certainly bail it out rather than impose a 24% benefit cut on the most reliable voting bloc in America. These promised future surpluses almost never materialize — they're convenient accounting fictions that leave the bill for whoever's in office a decade later.

Shelter costs make up more than a third of the consumer price index — the single largest component of any category. Yet housing is almost entirely absent from research predicting a return to low inflation. In the year to March, US shelter costs rose by 3%, already above the Federal Reserve's 2% target, while overall inflation came in at 3.3%. Critically, the official CPI measure understates real-time pressure because it captures rents across all existing leases rather than what new tenants and buyers are actually paying today.

The reasons are structural. Tariffs have driven up the cost of construction materials. Labor force contraction has tightened the supply of construction workers. Mortgage rates above 6% have created a lock-in effect: existing homeowners refuse to sell because moving means surrendering the cheap fixed rate they locked in years ago. The result is a market with almost no supply, rising construction costs, and no obvious relief mechanism. New household formation still happens, but building a new home has never been more expensive.

The broader story of housing affordability — where prices have risen far faster than wages for three decades — is now a self-reinforcing intergenerational problem. Older homeowners vote in large numbers and have a direct financial interest in keeping prices high. Politicians proposing serious supply expansion are asking their most reliable constituency to accept a fall in net worth, which is why the problem persists. For the purposes of inflation, the key point is simpler: housing inflation is structural, understated, and not going away.

If the Federal Reserve wants to bring inflation back down, it has to keep interest rates restrictive. But restrictive monetary policy makes government debt more expensive to service, slows the economy, and makes politicians deeply uncomfortable — particularly politicians running for reelection. As Pradan and Goodhart point out, in any lasting conflict between governments and central banks, the central banks lose. This has been true under governments of every political stripe in every country for as long as central banks have existed.

We are already seeing this tension play out. The current US administration has offered direct feedback to the Fed chair on social media, initiated a Department of Justice investigation into the central bank's office renovations, and nominated Kevin Warsh to take over the institution. Warsh has called for «regime change at the Fed,» an unusual choice of words when discussing monetary policy. But this is not a uniquely American or partisan problem. Research on central bank independence shows that the strongest predictors of losing control of inflation are frequent turnover of leadership and being pressured to buy government debt directly.

In Turkey and Argentina, we've seen what happens when politicians take full control of monetary policy: rapid turnover of central bank governors, governments forcing the bank to buy bonds, and currencies losing purchasing power. Advanced economies have deeper capital markets and stronger institutions, but the underlying mechanics of inflation do not change. When governments run persistent deficits and refuse to cut spending or raise taxes, the pressure to monetize that debt — to quietly print the difference — becomes very difficult for any central bank to resist indefinitely. It's a slow-motion tax on everyone holding the currency, and unlike an actual tax, no one has to vote for it.