The Inflation Update

Most measures suggest that inflation has peaked. The all items CPI was flat for the month, with the conventional core that excludes food and energy rising 0.6 percent at an annual rate (a.r.). The Median CPI computed by the Federal Reserve Bank of Cleveland did show a 3 percent (a.r.) increase, but the trimmed mean was up only 1.0 percent (a.r.) Importantly, these one-month readings are all below their 12-month averages. For the all-times CPI that's 2.0 percent, for the CPI ex food and energy it's 2.6 percent, for the Median CPI 3.7 percent, and for the trimmed mean 2.5 percent.

The detail in this month's report contains very little nourishment for inflation hawks. The dark spot is Owner Equivalent Rent (OER), which rose 4.1 percent (a.r.), continuing its 4+ percent trend rate of increase. But even with this, core services prices (services excluding energy services) rose only 3 percent (a.r.) in November, and are now increasing at a a trend rate of roughly 3.75 percent. Partially balancing this off is that core goods prices (commodities excluding food and energy commodities) fell a very substantial 5 percent (a.r.) for the month, and look to continue to fall at something like a 1 percent rate. Averaging these two things together means that the overall trend inflation rate could be as low as 2.5 percent. While goods prices are unlikely to continue falling, so the trend is probably still closer to 2.75 percent, things really have changed.

This is all good news for Ben Bernanke and his FOMC colleagues. It look increasingly likely that their bet is going to pay off, and that the 5.25 percent federal funds rate will be enough to bring core inflation measures down to 2 percent by late next year. The big question is still whether the potential growth rate has fallen below 3 percent, and if it has by how much. The economy still doesn't look to be slowing all that much, and if sustainable growth is 2.5 percent, then there is no slack in the economy. With no slack, inflation is unlikely to come down any further. That's the risk. It will be several months before we know more.

I had hoped to be able to write this on Friday, but I forgot that when in Italy it is unwise to count on published schedules for public transportation. I've encountered one-day transit strikes before, and things do usually work out eventually. This time, though, I made a bigger mistake than usual and chose to fly Alitalia. It cost me a day to straighten things out.

Consumer Price Inflation, Various Measures
(Through November 2006, all data s.a. at an annual rate)

For previous updates, as well as my occasional essays on current policy issues,
Please visit my home page:
www.brandeis.edu/~cecchett

Detail for Computation of the Median CPI
November 2006
Component	1-month annualized percent change	Relative importance (Normalized)	Cumulative relative importance
Fresh fruits and vegetables	-31.2	1.0	1.0
Public transportation	-20.9	1.1	2.1
Motor fuel	-18.1	4.0	6.2
Used cars and trucks	-15.9	1.8	7.9
Infants' and toddlers' apparel	-11.6	0.2	8.1
Men's and boys' apparel	-10.0	0.9	9.0
Communication	-9.6	3.0	12.0
New vehicles	-7.6	5.1	17.1
Dairy and related products	-6.4	0.8	18.0
Medical care commodities	-4.9	1.5	19.4
Tobacco and smoking products	-3.8	0.7	20.2
Personal care products	-3.8	0.7	20.9
Other food at home	-3.5	1.8	22.6
Women's and girls' apparel	-3.2	1.6	24.2
Household furnishings and operations	-1.9	4.7	29.0
Motor vehicle insurance	-1.8	2.3	31.3
Alcoholic beverages	-1.8	1.1	32.4
Processed fruits and vegetables	-1.0	0.3	32.7
Motor vehicle maintenance and repair	-0.5	1.2	33.8
Fuel oil and other fuels	-0.5	0.3	34.1
Footwear	0.0	0.8	34.9
Motor vehicle fees	0.9	0.5	35.4
Recreation	1.1	5.6	41.0
Miscellaneous personal goods	1.4	0.2	41.2
Meats, poultry, fish, and eggs	1.9	2.1	43.3
Miscellaneous personal services	2.3	1.2	44.6
Food away from home	3.0	6.0	50.6
Personal care services	3.5	0.7	51.3
Water and sewer and trash collection services	3.5	0.9	52.2
Owners' equivalent rent of primary residence	4.1	24.1	76.3
Medical care services	4.1	4.9	81.1
Cereals and bakery products	4.6	1.1	82.3
Rent of primary residence	4.8	6.0	88.2
Motor vehicle parts and equipment	6.2	0.4	88.6
Education	6.7	3.1	91.7
Jewelry and watches	8.5	0.3	92.0
Nonalcoholic beverages and beverage materials	11.0	0.9	92.9
Lodging away from home	12.1	2.7	95.6
Gas (piped) and electricity	15.9	3.9	99.5
Tenants' and household insurance	24.0	0.4	99.9
Car and truck rental	27.4	0.1	100.0

Previous	All Items CPI	CPI ex Food & Energy	Median CPI	16% Trimmed Mean
1 Month	0.0	0.6	3.0	1.0
3 Months	-3.9	1.6	3.4	1.5
6 Months	-0.2	2.3	3.8	2.2
12 Months	2.0	2.6	3.7	2.5
12 Months ended November 2005	3.5	2.1	2.4	2.6

Detail for Computation of the Median CPI