Inflation, But Only Where it Hurts

By Jeffrey Snider of Alhambra

The Consumer Price Index increased 2.74% in February 2017 over February 2016. That was the highest inflation rate registered in this format since February 2012. As has been the case for the past three months, the acceleration of headline inflation is due almost exclusively to the sharp increase in oil prices as compared to the lowest levels last year (base effects). It is the only part of the CPI report which captures anything like it.

The energy price index was up 15.6% year-over-year, compared to an 11.1% increase in January. The gamma of energy and therefore the CPI is already fading, with oil prices having been stuck at $52-$54 during the months of January and February. If WTI remains about where it is now, around $48, the current month (March) will be the last to feature any significant acceleration from oil.

The other parts of the CPI are as they have been consistently throughout. The “core” index, CPI less food and energy, was up 2.2% in February. It was the fifteenth straight month where the core increase was one of 2.1%, 2.2%, or 2.3%. In what is probably the best indication of inflation stripped of energy, the last time the core rate accelerated even slightly was during the second half of 2015.

Outside of energy, rising rent prices continue to be the primary plague upon consumer finances. The rent component of the CPI rose 4.2%, the sixteenth time over the past eighteen months where the annual change was 4% or more (and the remaining two months were just less than 4%). At the peak of the housing bubble, rental prices according to the CPI’s version of them increased at a better than 4% for a total of nineteen months to early 2008. In the early 2000’s, it was for twenty-five.

The difference between those prior periods and the current one is wages. Now, unlike before, wages and earnings are growing at about half the rate that rents are. This disparity is usually only found during periods of recession, a painful reminder of the underlying weakness in the real economy and the imbalances that remain.

If we subtract the contributions of rental prices from the CPI, in the services category, we find first no trace at all of the four QE’s and six years of ZIRP, leaving instead the same underwhelming economic trend exhibited almost everywhere else outside the unemployment rate. There is a conspicuous lack of price momentum at the baseline.

Instead, price increases of late have been focused entirely where consumers can least afford them – gasoline and rent. The lack of economic acceleration now combined with the exact “wrong” kinds of inflation (not that there is ever a “right” kind or level) are significant what Ben Bernanke would call “headwinds.”

For the first six months of 2016, the CPI was stuck around 1% with oil and energy prices still a moderate drag on the index (though considerably less than in 2015). The inflation rate rose modestly to 1.46% as that drag was removed where the CPI: Energy turned just barely positive in September. Absent, again, a renewed surge in oil prices (in a market where risks are all to the downside) my simple, back of the envelope calculations suggest a CPI in the not-too-distant further somewhere back around 1.5%, give or take.

Though Federal Reserve officials may seem to be in rush to “raise rates”, they might appear so only because they more so wish to avoid uncomfortable questions about why it is they are actually doing so. If the public believes there is economic acceleration being forecast just as there was in 2014 and early 2015, then so much the better (for the FOMC) than having to answer for why none is actually forecast even by models that through the whole of the last ten years were blatantly optimistic at every chance. Janet Yellen is no longer worried at all about “overheating”, but she is aided in her avoidance if the CPI if for only a few months gives off that suggestion.

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