The Inflation Update: February 2003
Stephen G. Cecchetti
21 March 2002

            Most analysts looking at the CPI report this morning will conclude that the war against inflation has been won and go back to monitoring the news about the war in Iraq. In so far as anyone gives inflation more than a passing thought, they might conclude that policymakers may even have undershot their target.  I agree with this in the short-term, but vigilance will be necessary to ensure that inflation doesn’t rise up again.

            This morning the BLS reported that the all-items CPI rose at a 7.5 percent annual rate (a.r.) from January to February 2003. As everyone knows, this elevated reading is almost entirely attributable to the 392 percent annual rate increase in fuel prices for the month.  Core inflation measures are designed for exactly times like these, and they are doing their job well. The CPI excluding food and energy, the traditional core, rose a very modest 1.3 percent (a.r.) and is up 1.9 percent over the past twelve months.  The Median CPI computed by the Federal Reserve Bank of Cleveland shows the same pattern, with an increase of 2.4 percent (a.r.) for the month and 2.7 percent since February 2002. 

            Inflation optimists – maybe I should call them deflation pessimists – will point to a number of factors to bolster their case.  First, regardless of how you measure it, core inflation is falling, with declines of more than one percentage point in the past year.  Second, inflation in the owner-equivalent rent (OER) and medical care components, both of which have been good indicators of past inflation increases, are not flashing any sort of warning signs. OER rose only 2.1 percent (a.r.) for the month and 3.1 percent for the past 12 months.  While the monthly reading can move around (it was 1.7 percent a.r. as recently as last November) the 12-month change is at its lowest point since October 2000.  Then there’s medical care costs.  Medical care commodity prices fell for the month, while medical care services prices rose only 2.4 percent (a.r.).  These readings are way below what anyone expected, and seem to be part of an emerging trend.

        In fact, there is virtually nothing in this morning’s report for an inflation hawk to grab on to.  The only thing I can find is the fact that core goods prices (commodities excluding food and energy commodities) fell by less than the recent 2 percent trend.  Pretty pathetic!

            With the zero nominal interest rate bound looming, these new inflation number will not help policymakers sleep easier.  While FOMC members would surely prefer to see some increase in inflation to help them reduce real interest rates, it’s looking more and more likely that they will take it on themselves to do the easing.  And they are likely to do it soon.  When they refused to state their views on the balance of risks to the economy this past Tuesday, the Committee’s statement concluded that “heightened surveillance is particularly informative.”  This morning’s report helps resolve at least one of the uncertainties that led to them to say this, and I believe pushes them one step closer to a cut that might very well come before the next scheduled meeting on May 6.

                         Consumer Price Inflation, Various Measures
                           (Through February 2003, all data s.a. at an annual rate)

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Detail for Computation of the Median CPI
February 2003
Component	Annualized 1-month % change	Relative Importance	Cumulative Relative Importance
Fuel oil and other fuels	392.0	0.2	0.2
Motor fuel	208.1	3.2	3.4
Car and truck rental	34.5	0.1	3.5
Meats, poultry, fish, and eggs	26.5	2.2	5.7
Gas (piped) and electricity	21.0	3.5	9.2
Cereals and bakery products	11.4	1.3	10.5
Motor vehicle insurance	9.4	2.5	13.0
Infants' and toddlers' apparel	9.3	0.2	13.2
Fresh fruits and vegetables	8.7	0.9	14.1
Processed fruits and vegetables	7.7	0.3	14.4
Education	6.6	2.9	17.3
Miscellaneous personal services	6.2	1.6	18.9
Dairy and related products	5.9	0.9	19.7
Food away from home	5.5	6.3	26.0
Other food at home	5.3	1.8	27.8
Used cars and trucks	5.0	2.0	29.9
Motor vehicle parts and equipment	4.5	0.4	30.3
Recreation	3.4	6.0	36.3
Water and sewer and trash collection services	3.2	0.9	37.2
Motor vehicle maintenance and repair	2.5	1.4	38.6
Medical care services	2.4	4.6	43.2
Rent of primary residence	2.4	6.6	49.8
Personal care products	2.4	0.7	50.5
Owners' equivalent rent of primary residence	2.2	22.6	73.1
Tenants'  and household insurance	2.1	0.4	73.5
Personal care services	1.9	0.9	74.4
Household furnishings and operations	1.9	4.7	79.1
Women's and girls' apparel	1.1	1.7	80.8
Tobacco and smoking products	0.8	1.0	81.8
Motor vehicle fees	0.0	0.6	82.3
Medical care commodities	-0.5	1.4	83.7
Men's and boys' apparel	-1.0	1.0	84.8
Communication	-1.3	3.0	87.8
New vehicles	-1.7	4.9	92.7
Alcoholic beverages	-1.9	1.0	93.7
Miscellaneous personal goods	-3.8	0.2	93.9
Nonalcoholic beverages and beverage materials	-4.2	1.0	94.9
Public transportation	-5.1	1.2	96.1
Footwear	-6.7	0.9	96.9
Jewelry and watches	-18.5	0.4	97.3
Lodging away from home	-19.2	2.7	100.0