The Inflation Update: May 2000

Stephen G. Cecchetti

June 14, 2000

 

Consumer price inflation continued along a somewhat choppy path.  After a March increase of 8.8 percent, the headline CPI showed no change in April and a 0.7 percent rise in May (at an annual rate). As in April, declining energy prices held the CPI measure down in May.  (Energy price fell nearly 2 percent for the month, or 20 percent at an annual rate.)  Anyone who has filled up their gasoline tanks in the past few weeks knows that these favorable energy price trends have already run their course, and we will soon see sharp higher energy price increases.

Core inflation measures, which are more likely to command the attention of Federal Reserve officials, are clearly doing their job of reducing the short-term volatility in the inflation estimate, as both the CPI excluding food and energy and the Median CPI rose at levels similar to their April increases.  The CPI excluding food and energy measure was up 2.0 percent in May, while the Median CPI rose 2.5 percent (both at annualize rates).

When the FOMC meets in two weeks, they will be faced with the unhappy problem of projecting future inflation patterns from the mixed signals in the retail inflation reports of the past few months.  As I interpret the data, inflation appears to have accelerated a bit this spring, from about 2¼ percent to about 2½ percent.  It is possible, if not likely, that this is a consequence of the rather loose policy environment the Federal Reserve created between the fall of 1998 and the early summer of 1999 when the funds rate was reduced to 4¾ percent and held there. The question is whether this year’s aggressive interest rate increases have been enough to halt the recent rise in the core rates.  One positive sign is that the high levels of liquidity growth that we saw in late 1998 and early 1999 have clearly abated.  Moreover, the incoming data certainly suggest that we are starting to see signs that the 175-basis-point increase over the past year (a net rise of 100 basis points over the level of summer 1998) is taking some of the steam out of domestic spending.

I would caution that some of these recent data, including the apparently weak May employment report, are a bit suspicious.  A pattern has developed over the past two years or so in which strong winter data have been followed by weak spring numbers.  I suspect that this is figment of the data--a seasonal adjustment problem arising from the relatively mild winters we have had in the U.S.  That is, the data spike up in the winter, when real output and employment don't fall as much as they historically do, then come back down again in the spring as the government’s statistical procedures attempt to adjust for a spring rebound that does not occur. So it may not be until the summer data become available that we will get an honest reading of the “real side” of the economy.  In any case, I would caution that we might be in for a very rude surprise when the summer numbers are computed.

With this issue of my inflation update, I introduce a new table that is the basis for the computation of the Median CPI.  As we can see, this month’s major outliers were several raw food components on the up side and energy-related goods and tobacco on the downside.  As it often is, the median good was owner equivalent rent.

One final note should be made about a technical issue that I have mentioned on several recent occasions, regarding the problems arising from the methods used by the BLS to estimate changes in owner equivalent rent (OER).  Recall that OER accounts for 20 percent of the weight in the headline CPI, represents 27 percent of the CPI excluding food and energy, and is often the median component in the Median CPI. 

The OER is based entirely on a survey of rental units, weighted to reflect the ownership patterns from the 1990 census. Recent research at the Federal Reserve Bank of New York[1] suggests that this has led to an understate increases in OER in recent years. Demographic shifts, with the population aging, together with changes in the income distribution, have led to a relative increase in the number of higher-priced homes.  As the FRBNY research shows, rental rates at the high end have been experienced steeper rent increases than have lower-priced homes.  This has led to an underestimate of inflation in OER and created a downward  bias in the CPI.  Obviously, this carries over to the core measures as well. 

Consumer Price Inflation, Various Measures
(Through May 2000, all data at an annual rate)

^* These are all computed from the methodologically consistent (research) CPI series.

Detail for Computation of the Median CPI
May 2000
Component			Annualized 1-month % change	Relative Importance	Cumulative Relative Importance
Fresh fruits and vegetables			21.7	1.1	1.1
Processed fruits and vegetables			17.4	0.3	1.4
Other food at home			15.9	1.9	3.3
Used cars and trucks			11.5	1.8	5.2
Meats, poultry, fish, and eggs			9.8	2.6	7.8
Cereals and bakery products			9.4	1.5	9.3
Lodging away from home			9.1	2.4	11.7
Tenants'  and household insurance			8.5	0.4	12.1
Personal care services			7.8	1.0	13.0
Public transportation			7.1	1.4	14.5
Men's and boys' apparel			6.7	1.3	15.8
Education			5.5	2.8	18.6
Car and truck rental			4.5	0.1	18.7
Medical care commodities			4.1	1.3	20.0
Rent of primary residence			4.0	7.1	27.1
Miscellaneous personal services			3.9	1.5	28.6
Medical care services			3.7	4.6	33.1
Recreation			3.6	6.0	39.1
Motor vehicle maintenance and repair			2.8	1.6	40.8
New vehicles			2.5	4.8	45.5
Owners' equivalent rent of primary residence			2.5	20.5	66.1
Motor vehicle parts and equipment			2.4	0.5	66.6
Water and sewer and trash collection services			2.3	0.9	67.6
Motor vehicle fees			2.3	0.6	68.2
Motor vehicle insurance			1.9	2.4	70.6
Nonalcoholic beverages and beverage materials			1.8	1.1	71.7
Food away from home			1.4	5.7	77.4
Household furnishings and operations			0.9	4.7	82.1
Alcoholic beverages			0.0	1.0	83.1
Footwear			-1.0	0.8	83.9
Gas (piped) and electricity			-1.0	3.5	87.4
Communication			-1.3	2.6	90.0
Personal care products			-3.1	0.7	90.8
Infants' and toddlers' apparel			-5.3	0.3	91.0
Women's and girls' apparel			-5.8	1.8	92.9
Dairy and related products			-7.2	1.1	93.9
Fuel oil and other fuels			-7.6	0.3	94.2
Miscellaneous personal goods			-10.5	0.2	94.5
Jewelry and watches			-14.5	0.4	94.9
Tobacco and smoking products			-28.0	1.4	96.2
Motor fuel			-35.6	3.8	100.0