Services Inflation is Still a Problem

With overall inflation showing a continuing descent toward the Federal Reserve’s 2.0% target, there is concerning news: services. There, inflation remains significantly higher than for goods and its impact can be felt in several CRE sector categories.The Fed’s preferred Personal Consumption Expenditures measure, PCE, shows that in September, the PCE price index was 2.1%. Goods decreased 1.2% and services were up 3.7%. Even that sounds better than the other inflation measurement. The Consumer Price Index showed services without energy up 4.7% year over year.An Associated Press report says that service inflation is putting additional pressure on consumers, whether they are eating out, trying to get a vehicle serviced, or paying for insurance. As things are expensive for consumers, they also put pressure on commercial real estate.Food services inflation, for example, saw a 3.6% year-over-year increase in September that major names in the business — McDonald’s and Chipotle are two examples — expect to continue. Rising wages in the industry, including targeted city and state mandates increases, is one of the factors. Food prices continue to be elevated for restaurants of all types and not just consumers. As prices rise, there are fewer inclinations among consumers to eat out, which directly reduces revenues at restaurants, and so reduces rent owed to the landlord. In addition, the restaurant sees less profit, which makes it a greater credit risk in the already low-margin world of the industry.To make the position of many millions of consumers clear, at the median level, wage growth has been slightly behind to equal inflation. For half the population, wages have lost value every year for decades. The higher inflation, the worse they do. Services businesses, including those on the lower end of pricing, now have a significantly smaller business base.As AP reported, all kinds of insurance has jumped in price. CRE property owners know because their policies become more and more expensive. Those in areas receiving sustained weather damage, largely because of climate change, can expect increases of 50% to 100%, according to MarshMcLennan.However, they’ll experience additional indirect impact. As household premiums are up 10.1% year over year and auto insurance rose 6%, more consumers will be stretched to meet their bills, putting agencies leasing office space under more strain.Rising home rental costs have been one of the biggest drivers of inflation. Overall housing costs were up 5.1% year over year in September. Given that most wages don’t increase by that factor, people have less money to spend on anything, so retail in general will feel a hit, causing the same problems as restaurants do — lower gross income, affecting the rent levels, and less profits, making them greater credit risks.