CPI
In March the CPI increased 0.5% bringing the year over year change to 2.7%.
I will leave the analysis of the CPI to other and just discuss some of the implications.
First, this caused my Fed policy index to turn positive for the first time since 2008. This index is a form of a Taylor Rule but it gives inflation and the unemployment rate an equal weight as compared to most versions of the Taylor Rule that give inflation roughly double the weight of unemployment or growth. But this implies hat the Fed should allow QE 2 to expire this spring. Moreover, it raises a real possibility that the Fed may raise feds funds in the second half of the year.
Second, I will look at the not seasonally adjusted (NSA) core CPI. In a low inflation environment firms tend to raise prices once a year, typically at the start of the year. As a consequence in the NSA core CPI over half the annual increase occurs in the first quarter of the year.
The third quarter pop stems largely from tuition, home owners equivalent rent and new car prices.
In the first quarter of 2011 the NSA core CPI rose 0.852% as compared to 0.469% in 2010.
This is the first time since 2004 that the NSA core CPI was higher than in the prior year.
If the average that some 55% of the annual increase occurs in the first quarter holds this year it implies that in 2011 the December to December increase in the core CPI will be about 1.55% or about doulbe the 2010 gain.
A 1.5% annual increase in the core CPI would be well within the Fed’s implied target of 2%
core inflation. To but this in perspective, from 1965 to 2008 the core CPI never fell below
2%.
In the short run, however rising inflation is creating problems for the consumer. In March the year over year change in real average hourly earnings fell to -1.0% and real weekly wage growth turned negative. This weakness in real wages is showing up in the economic data.
For example, in March nominal retail sales rose 0.4%. But most of this was gasoline and excluding service station sales, nominal retail sales only rose 0.1%. This CPI report strongly implies that real retail sales actually fell in March. This means that in the first quarter real consumer spending is ending on a very weak note — one reason forecasters were optimistic about first quarter growth three months age was that the fourth quarter ended on a strong note. Moreover, the second quarter will be when the biggest impact of the disruptions to the supply chain from the Japanese disaster will occur. So the standard thinking that growth will rebound in the second quarter is questionable.
The cute little irony in this story is that, because of the nature of the inflation – mostly in food and fuel – the Fed needs to ease more to offset the impact of inflation. That is, in fact, sort of what Fed doves argue when they talk about weak hiring, economic slack and slow wage gains. The way to offset a narrow rise in costs is to increase incomes. Broad increases in cost more or less require a wage-inflation element, and so the solution there is tightening, to slow the growth of incomes. Wage-drive inflation is conceptually simply, politically simpler, and easier to address.
Peter Morici released this today:
Inflation Moves to Center Stage, Highlights Fed and G20 Impotence
Today, the Labor Department reported consumer prices were up 0.5 percent in March, driven by 3.5 and 0.8 percent jumps in energy and food prices.
This is the fourth straight month of large gains in consumer prices. While food and energy prices may be volatile, international conditions indicate commodity prices will continue surging, and the Fed’s emphasis on core inflation is absolutely misplaced.
With inflation running at 6 percent a year, it will be tough for the Federal Reserve to deny inflation and continue quantitative easing and low interest rates generally. Similarly, with unemployment likely to remain above 8 percent for the balance of the year, the Fed will find it tough to raise interest rates too much.
The U.S. economy is headed for stagflation thanks to failed banking and international economic policies that lie largely beyond the Fed’s control.
At the heart of the Great Recession and now stagflation are two dysfunctions-problems in U.S. banking, and China’s currency policy and Germany’s privileged position in the EU. For different reasons, but with the same effect, China and Germany enjoy undervalued currencies and protected domestic markets, and are creating imbalances in demand for goods, services and workers globally.
Recent banking reforms have not changed how Wall Street does business-the emphasis is still on trading instead of making sound loans. Whereas before the recession banks made reckless loans-based on the shady practice of pushing loan-backed securities on unwitting investors-now they are starving small and medium-sized businesses for the credit needed to create jobs.
Also, Beijing subsidizes imports of oil and other commodities with the dollars it obtains selling yuan to keep its value low. In the case of oil, it gives to refineries dollars it obtains selling yuan to offset the high price of imported oil. That pushes up oil and other commodity prices globally. Simply, China’s currency policy is a global inflation machine.
In combination, China’s currency policy starves its trading partners of demand for goods, services and workers with subsidized exports of consumer goods and pushes up inflation in those economies by elevating oil and other commodity prices. That makes China’s currency policy a global stagflation machine too.
This week the G20 Finance Ministers, representing the largest developed and developing countries, are meeting in Washington. And again China and Germany block progress. Instead, they prefer to lecture other countries about the genius of their policies, when those policies are nothing more than beggar thy neighbor protectionism, exporting unemployment and fiscal crisis to their trading partners.
The Obama Administration needs to give up on failed multilateral groups and lead concerted action with a few other major nations in responding directly, or as necessarily, act unilaterally to respond to Chinese and German protectionism. If not, Americans can look forward to high unemployment, damaging inflation, falling real incomes, and continuing economic woes.
Peter Morici is a professor at the Smith School of Business, University of Maryland School, and former Chief Economist at the U.S. International Trade Commission.