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The
Inflation Update: November 2001 Oxford, England Everyone thinks inflation is going to fall well below 2 percent by late next year. Labor market slack and excess productive capacity as stifling even the most modest impulse to raise prices, they say. But these predictions come from the same people who tried to convince us that inflation was going to rise in the 1998 and 1999 when we faced an opposite set of circumstances. Such forecasts are based on the premise that inflation falls as growth falls below trend and unemployment rises. Needless to say, the recent record has not vindicated this view, as inflation steadily fell through the entire boom of the 1990s. In fact, someone with just 10 years worth of data would be tempted to conclude that inflation and unemployment are positively correlated! I wouldn’t go quite that far, but I will say that I think the bulk of forecasts are overly optimistic about the long-term growth rate of the U.S. economy, and as a result they underestimate of the short-term inflation risks. Every month’s consumer price report has made me a little bit more pessimistic about the inflation outlook, and this morning’s BLS release is no exception. While headline consumer prices were unchanged from a month ago, core inflation measures continued their worrisome rise. The CPI excluding food and energy rose a whopping 4.6% (a.r.) for the month, outpacing the 3.5% rise in the Median CPI computed by the Federal Reserve Bank of Cleveland. Over the past year, the CPI excluding food and energy is up 2.8%, while the Median CPI has increased by 3.9%. The trend, evident from the data in the table below, is that inflation is steadily rising and the trend now stands in excess of 3%. All of this is clearly consistent with the reports that goods producers have no pricing power, as there continues to be virtually only modest inflation in core goods prices (commodities excluding food and energy commodities). Services, however, are another matter. This past month, core service prices (services excluding energy services) rose 5.8% (a.r.), and have now gone up 4% in the past 12 months. This reflects the combined acceleration in the owner equivalent rent and medical care services, which rose 5.3% (a.r.) and 7.0% (a.r.), respectively, since October. Overall, medical care commodity and services prices together are now up 4.8% in the last 12 months while OER increased 3.9% over the same period. These are all very big numbers, and I see no end in sight. I have looked carefully for bright spots in this morning’s report, and I really can’t find any. Price declines were concentrated in food, energy and the extremely volatile apparel sector. It is true that energy prices fell 4.4% for the month, and are now down over 15% in the last six months. And computer prices are down an additional two percent this month. But energy prices simply continued to reverse their increases of several years ago, while computers are irrelevant as consumer goods. By contrast, inflation in all of the very persistent service components continues to rise. Where does this leave us? I firmly believe that the good times of the 1990s are over, and that we are in for a rough few years. Today we are facing a modest version of the stagflation that plagued us in the late 1970s. Recent FOMC statements and the speeches by Fed officials suggest that monetary policy is now being made assuming that the growth rate of potential output is closer to 4% than 3%. The biggest risk, I think, is that the Committee will hold on to this conviction for too long. The longer they wait to address the growing inflation risk, the higher inflation will turn out to be.
Consumer Price Inflation, Various Measures
For
previous updates, as well as my occasional essays on current policy issues,
For a pdf version of this file see
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