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Inflation Reduction Act may have little impact on inflation

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WASHINGTON (AP) — With inflation raging near its highest level in four decades, the House on Friday gave final approval to President Joe Biden's landmark Inflation Reduction Act. Its title raises a tantalizing question: Will the measure actually tame the price spikes that have inflicted hardships on American households?

Economic analyses of the proposal suggest that the answer is likely no.

The legislation, which the Senate passed earlier this week and now heads to the White House for Biden's signature, won't directly address some of the main drivers of surging prices — from gas and food to rents and restaurant meals.

The law could save money for some Americans by lessening the cost of prescription drugs for the elderly, extending health insurance subsidies and reducing energy prices. It would also modestly cut the government's budget deficit, which might slightly lower inflation by the end of this decade.

The nonpartisan Congressional Budget Office concluded last week that the changes would have a “negligible” impact on inflation this year and next. And the University of Pennsylvania's Penn Wharton Budget Model concluded that, over the next decade, "the impact on inflation is statistically indistinguishable from zero.”

Biden himself, in speaking of the legislation's effect on inflation, has cautiously referred to potentially lower prices in individual categories rather than to lower inflation as a whole. This week, the president said the bill would “bring down the cost of prescription drugs, health insurance premiums and energy costs.”

A letter signed by more than 120 economists, including several Novel Prize winners and former Treasury secretaries, that asserts that the law's reduction in the government's budget deficit — by an estimated $300 billion over the next decade, according to the CBO — would put “downward pressure on inflation.”

In theory, lower deficits can reduce inflation.

Yet Douglas Holtz-Eakin, who was a top economic adviser to President George W. Bush and later a director of the CBO, noted that the lower deficits won't kick in until five years from now and won't be very large over the next decade considering the size of the economy.

“$30 billion a year in a $21 trillion economy isn’t going to move the needle,” Holtz-Eakin said, referring to the estimated amount of deficit reduction spread over 10 years.

He also noted that Congress has recently passed other legislation to subsidize semiconductor production in the U.S. and expand veterans' health care, and suggested that those laws will spend more than the Inflation Reduction Act will save.

In addition, Kent Smetters, director of the Penn Wharton Budget Model, said the law's health care subsidies could send inflation up. The legislation would spend $70 billion over a decade to extend tax credits to help 13 million Americans pay for health insurance under the Affordable Care Act.

Those subsidies would free up money for recipients to spend elsewhere, potentially increasing inflation, although Smetters said he thought the effect would likely be very small.

While the act could have the benefit of increasing the savings of millions of households on pharmaceutical and energy costs, it’s unlikely to have much effect on overall inflation. Prescription drugs account for only 1% of the spending in the U.S. consumer price index; spending on electricity and natural gas makes up just 3.6%.

The Inflation Reduction Act's energy provisions could also create savings, though the amounts are likely to be much smaller.

The bill will provide a $7,500 tax credit for new purchases of electric vehicles, though most EVs won't qualify because the legislation requires them to include batteries with U.S. materials.

And the legislation also significantly expands a tax credit for homeowners who invest in energy-efficient equipment, from a one-time $500 credit to $1,200 that a homeowner could claim each year. Vincent Barnes, senior vice president for policy at the Alliance to Save Energy, said this would allow homeowners to make new energy-efficient investments over several years.

But for all Americans, including those who aren't homeowners, the impact will likely be limited. The Rhodium Group estimates that by 2030 the bill's provisions will save households an average of up to $112 a year as gas and electricity becomes cheaper as more Americans drive EVs and houses become more energy efficient.

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