Inflation Washes Ashore

Ever since the election of Donald Trump as U.S. President, the stock market has gone into a “Trumpflation” mode of trade. The early evidence of inflation may have finally washed ashore.

U.S. January prices rose 0.6% and core prices rose 0.3% month-over-month. Both were slightly higher than expected, and the rise was the highest since February, 2013. Year-over-year the Consumer Price Index (CPI) rose 2.5%, the highest since march, 2012. The CPI incorporated some particularly strong price hikes:

“Clothing prices jumped 1.4 percent, the most since February 2009. Men’s apparel surged by the most on record. New vehicle prices climbed 0.9 percent in January, the biggest advance since November 2009.”

The price hikes were enough to push real hourly wages down by 0.5% form December and unchanged year-over-year.

This is just one month of data, yet it precedes any of the policy changes or fiscal stimulus measures which promise to introduce inflationary pressures into the U.S. economy. InflationWatch is officially back on alert for the U.S.!

Bullard recommends targeting monetary policy at headline, not core, inflation

The Federal Reserve Bank of St. Louis just published an article written by James Bullard, a non-voting member of the Federal Reserve and President of the St. Louis Fed, called “Measuring Inflation: The Core Is Rotten.” It is based on a speech Bullard delivered two months ago to the Money Marketeers of New York University. It is a refreshing perspective on the use of core inflation for guiding monetary policy; it is also a bit surprising coming from someone on the Federal Reserve!

Bullard starts and ends with a critique familiar to those of us who insist food and energy prices should not be excluded from measures of inflation:

“One immediate benefit of dropping the emphasis on core inflation would be to reconnect the Federal Reserve with households and businesses who know price changes when they see them. With trips to the gas station and the grocery store being some of the most frequent shopping experiences for many Americans, it is hardly helpful for Fed credibility to appear to exclude all those prices from consideration in the formation of monetary policy…

…The headline measures of inflation were designed to be the best measures of inflation available. It is difficult to get around this fact with simple transformations of the price indexes. The Fed should respect the construction of the price indexes as they are and accept the policy problem it poses. To do otherwise may create the appearance of avoiding responsibility for inflation…”

(Compare and contrast this to Governor Frederic S. Mishkin’s insistence in 2007 that the Federal Reserve should care about headline inflation but focus on controlling core inflation in its public stance on monetary policy.)

I love the recognition that average consumers and businesspeople “know price changes when they see them.” This is Inflation Watch’s reporting philosophy and helps explain my emphasis on reporting the price changes of a broad range of products and services.

Bullard makes some key points to argue that headline inflation can and should be the focus of monetary policy. While I agree with his overall thesis, I do take issue with some of the points (my comments in bold):

  1. Monetary policy can be adjusted to accommodate the extra volatility in headline inflation by, for example, focusing on year-over-year changes.
  2. The relationship between core and headline inflation is unclear and even changes over time, making it more difficult to comprehend the optimal policy response. Me: This was an interesting point since the Federal Reserve’s statements usually imply the Federal Reserve tunes policy for core, not headline, inflation anyway. Currently, Ben Bernanke has all but absolved monetary policy of any impact on commodity prices.
  3. The Federal Reserve cannot directly influence supply and demand dynamics for any particular product in the inflation index, so it is not sufficient to ignore prices that are supposedly out of the Federal Reserve’s control. Me: I understand Bullard’s point, but I also think providing cheap money that traders can easily borrow to bid up the prices of goods and services is a strong and sufficient influence. The Federal Reserve definitely thinks it can directly influence housing demand and prices given its targeted efforts at lowering mortgage rates.
  4. When the price of one good goes up, another goes down as consumers adjust their demand to stay within their budgets. Increasing food and energy prices can thus force other prices down in the core index and further understate true inflation.

Bullard further notes that their is promising research into directing monetary policy at a specific subset of prices that households care most about, but it is too early to use.

Of particular interest to me was Bullard’s identification of a changing world where commodity prices will join the prices of medical care (and education) in outpacing the overall average inflation rate.

“…much of the contemporary worry about commodity prices is that relative price changes may be much more persistent going forward than they have been in the past…

…it is at least a reasonable hypothesis that global demand for energy will outstrip increased supply over the coming decades as the giant economies of Asia, particularly India and China, reach Western levels of real income per capita. If that scenario unfolds, then ignoring energy prices in a price index will systematically understate inflation for many years.”

(See “Preparing for Profits in a Resource-Constrained World” on implications for investing).

Given the limitations and blind spots of core inflation, Bullard makes a convincing case for directly targeting headline inflation with monetary policy. Otherwise, the Federal Reserve remains at risk for maintaining monetary policies that are too loose for too long.

Changing the measure of inflation to generate more government revenue

I read a short article in Planet Money that reminded me why I tend not to pay attention to official government inflation statistics. The government estimates it could generate $200B in extra revenues over a decade by making the switch. This reminds me that the folks generating the index essentially have a vested interest in the numbers themselves or at least can face political pressures to calculate and/or interpret them in ways favorable to policy.

See “The Wonky Inflation Tweak Worth Over $200 Billion” for more.

Asian inflation may finally be cooling

Thanks to improvements in crop production, monetary tightening, a slowdown in economic growth rates, and currency appreciation, the trend now appears to be heading down for core and headline inflation in Asia. Different countries are wrestling with different problems, but, overall, economists and analysts quoted in “Food Inflation Begins to Moderate in Asia” seem to be getting optimistic about the prospects for inflation.

The article includes some statistics on the huge difference in price trends on various food items in India:

“The cost of bananas in New Delhi is up 50 percent over the year, while paneer – a form of cottage cheese – has risen 26 percent to 145 rupees per kg.

Yet other food prices are falling. Staples such as tomatoes and potatoes, which peaked earlier in the year at levels that caused great stress to poorer families, have seen prices moderate in recent weeks.”

The Federal Reserve May Choose to Ignore the Inflation Expectations of Households

(Originally appeared in “One-Twenty Two“)

First, Bernanke made it clear he thinks gold is not a good indicator of inflation expectations. Now, the Federal Reserve Bank of San Francisco has produced research that could convince the Fed to insulate itself from the inflation expectations of average Americans in “Household Inflation Expectations and the Price of Oil: It’s Déjà Vu All Over Again” by Bharat Trehan (thanks to Bill Fleckenstein for calling this article to my attention).

Household inflation expectations have risen to 4.5% from 3% at the end of 2010. Fortunately for the Federal Reserve, its empirical research seems to show that household expectations have become inaccurate and irrelevant for monetary policy:

“This Economic Letter argues that the jump in household inflation expectations is a reaction to the recent energy and food price shocks, following a pattern observed after the oil and commodity price shocks in 2008. The data reveal that households are unusually sensitive to changes in these prices and tend to respond by revising their inflation expectations by more than historical relationships warrant. Since commodity price shocks have occurred relatively often in recent years, this excessive sensitivity has meant that household inflation expectations have performed quite badly as forecasts of future inflation.”

Trehan admits that the University of Michigan’s Survey Research Center shows that households had been pretty good indicators of future inflation from the 1970s to 2000. However, over the past several years, the increased volatility in the prices of food and energy have misled consumers to anticipate more future inflation than is warranted given low levels of existing core inflation:

“The recent jump in the Thomson Reuters/University of Michigan measure of household inflation expectations appears to be related to increases in the prices of energy and food, similar to the jump observed in 2008. The size of this response to noncore inflation cannot be justified in terms of the historical relationships in the data. This disproportionate response is probably the reason why household inflation expectations have not done well as forecasts of future inflation in recent years, a period of volatile food and energy inflation. The poor forecasting performance argues against reacting strongly to the recent increases in household inflation expectations.”

Moreover, recent increases in inflation expectations are not justified by changes in monetary policy. Trehan speculates that…

“It’s also possible that households’ sensitivity to noncore inflation goes up following substantial, sharp increases in the price of energy and food items, such as those that occurred in the 1970s and over the past few years…This similarity to the 1970s is unsettling because it suggests that consumers are not accounting for the ways monetary policy has changed over this period.”

I assume this claim means that the Federal Reserve’s monetary policies have improved since the 1970s. In my opinion, we have seen even less reason to trust in the Federal Reserve’s policies to the extent that these policies “fix” economic problems in such a way to help set up the next crisis. These crises build while the Federal Reserve tends to reassure that it has everything under control and/or there is nothing happening to cause concern.

I would challenge the historical record and related regressions to suggest we need to consider whether the structural underpinnings of inflation are changing in ways that the Federal Reserve will be slow to recognize. Whether the Federal Reserve can do anything about these changes is another question.

A danger of inflation: The misallocation of resources on the way to sustained price increases (an explanation of the mission of Inflation Watch)

In January of this year, Professor Russ Roberts of George Mason University invited fellow economics professor Don Boudreaux to address “Monetary Misunderstandings” on the weekly podcast “EconTalk.” From the synopsis:

“Don Boudreaux of George Mason University talks with EconTalk host Russ Roberts on some of the common misunderstandings people have about prices, money, inflation and deflation. They discuss what is harmful about inflation and deflation, the importance of expectations and the implications for interest rates and financial institutions.”

I was most interested in the discussion about the definition of inflation because I understand the importance of maintaining technical and economic clarity on this topic for “Inflation Watch.”

Boudreaux first deferred to Milton Friedman’s famous empirical proclamation “inflation is always and everywhere a monetary phenomenon” and lamented that the economics profession no longer defines inflation as an increase in the money supply. Now, inflation represents a sustained increase in the average price level in the economy. Inflation is not simply any increase in price; Boudreaux complained that this definition is a common misconception of non-economists. However, he acknowledged that he personally thinks inflation’s largest threat is the process by which price increases become sustained. This process features uneven injections of money into the economy, causing specific and identifiable distortions in the economy that lead to a misallocation of resources. (Roberts somewhat disagreed as he expressed much greater fear of hyperinflation).

Bill Fleckenstein first taught me this notion that increases in the money supply distort specific areas of the economy. Such distortions can morph into bubbles, inflation’s ultimate misallocation of resource (capital). Bubbles can occur without ever tipping the economy into an inflationary cycle via official government statistics. So, it is very easy, for example, for the Federal Reserve to do nothing about soaring prices in an important sector of the economy and instead simply plan for the ultimate clean-up of the bubble’s aftermath. In recent history, the disastrous wakes of bubbles have forced the Federal Reserve to resort to easy money policies that invariably help fuel the next bubble. (Fleckenstein famously reviews this process and a lot more in “Greenspan’s Bubbles: The Age of Ignorance at the Federal Reserve.”)

Through Inflation Watch, I identify news of price increases not because any one price hike defines inflation; as noted above, this approach is technically incorrect. Instead, these stories offer clues that potentially can uncover the misallocations of capital that flag inflationary forces may be developing. I am trying to piece together a mosaic of economic activity that may provide early indicators of inflation well ahead of the moment that government statistics show it or the moment the Federal Reserve officially announces an inflationary process is underway.

The general context is important. We are currently experiencing an extended period of easy money policies in most of the globe’s developed economies. Presumably, this money must go “somewhere” at some point in time. Financial markets are the perfect conduit for easy money; investors and speculators alike will flock to those parts of the economy that promise some protection against the devaluation of currency and/or profits from inflationary pressures. (Boudreax and Roberts never directly addressed the enabling influence of financial markets for transmitting inflationary pressures). I have argued in previous posts that the most favorable hosts for easy money are where demand is particularly robust and supply may be constrained or stressed. Today, commodities represent a perfect storm for global easy money policies. So, many of the recent stories in Inflation Watch have focused on commodities and industries dependent on consuming commodities.

The Federal Reserve’s current bias toward inflation shows because the Fed has demonstrated relatively quick action to thwart the perceived threat of deflation. The specter of the Great Depression always looms large. Recall that after the dot-com bubble burst, Greenspan cited the threat of deflation as a prime reason for aggressively loosening monetary policy. The crash of the housing bubble of course generated an even more aggressive policy of monetary easing given housing’s importance to the overall economy and consumer spending. The Federal Reserve’s recent success in averting deflation certainly adds confidence in applying easy money policies, much to the likely chagrin of devout deflationists. Meanwhile, the Federal Reserve has also made it clear that it will not act against inflation until price increases (or the expectation of price increases) reach sustained levels over time.

For example, last week, Bloomberg quoted Federal Reserve Bank of Chicago President Charles Evans in “Fed’s Evans Says ‘Slow Progress’ in Economy Justifies Maintaining Stimulus“:

“Inflation is a continuing increase in the price level over time: A one-off increase in the price level is not inflation…Price increases have to be sustained.”

I duly noted that at no time does someone from the Federal Reserve insist that deflation is a continuing decrease in the price level over time!

Evans goes on to express his comfort with the current levels of inflation by citing empirical research showing no correlation between higher oil prices and inflation. Even a casual examination of the current record of price increases demonstrates that oil’s price rise is just one small part of the general increase in prices percolating in the economy, especially where demand is strong and supply is compromised. Regardless, the conclusion of this research is intuitive given the numerous supply-related fluctuations in oil that have occurred with and without Fed monetary action. As we saw above, it is not likely that the increase in prices in any one part of the economy will produce the sustained increase in price levels required to signal inflation’s arrival. Without an increase in the money supply, increases in oil prices steal money from some other products in the consumer’s basket of goods. The net impact on official inflation statistics may be close to zero and “core” inflation, subtracting energy and food, could even decrease! But if increases in the money supply happen to coincide with a strengthening oil market, I contend we better look out.

The bias of the Federal Reserve toward inflation is also rooted in the concept that “a little inflation” is good for the economy because it encourages spending. Specifically, inflation encourages consumers to buy today to avoid paying higher costs tomorrow. In a deflationary environment, consumers just wait and wait and wait. Boudreaux and Roberts sharply criticize this theory and cite examples demonstrating the fallacy of such thinking. For example, with even a little inflation, why don’t sellers just wait until tomorrow to sell since they can make higher profits? Why do consumers buy computers and many other electronic goods knowing full well that prices will be lower tomorrow (not to mention these goods will be of higher quality)? Why was America’s post-Civil War economy so strong for almost 30 years despite persistent deflation? Clearly, buyers and sellers are motivated not just by relative prices, but also the relative value (or utility) gained from consumption and/or alternative investments.

I have covered the core concepts reviewed by Boudreaux and Roberts related to the philosophy and approach of “Inflation Watch.” If you want more detail, I highly recommend listening to the podcast, reviewing the transcript, and/or perusing some of the references provided by EconTalk. Hopefully, you have also gained a better understanding of Inflation Watch’s mission: “Watching for inflation here, there and everywhere.”

Finally some “inflation” in Japan

It had to happen eventually…Japan’s core CPI finally experienced some year-over-year lift. In “Japan Core CPI Rises First Time Since 2008“, Reuters reports:

“Japan’s core consumer prices rose in April from a year earlier for the first time in more than two years as the impact of school tuition fees faded and commodity costs crept up, but underlying prices remained weak as the March earthquake hurt consumption…

…A government policy to subsidize school tuition fees is no longer distorting annual changes in prices, as more than a year has passed since the policy was introduced. The move was estimated to have pushed down overall prices by about 0.5 percent.”

OK. So this lift is not likely to last given the special adjustment, but it is a nice break from the regular drone of deflationary news. As I have stated before, I tend not to pay much attention to official government statistics on inflation, but this headline alone made me pause. The rest of the article summarizes the prospects for Japan’s post-disaster recovery economy.

Service sector inflation at historic lows as the Fed “shoots blanks”

And now for a different perspective…

In CNBC article “Data Double Take: Inflation for Majority of Economy at Record Lows“, David Rosenberg, chief economist & strategist at Gluskin Sheff, argues that inflation is not a threat in the U.S. because the service sector’s rate of inflation is at historic lows. Moreover, companies in the service sector have no pricing power and workers are unable to earn higher wages. These arguments all run counter to other findings demonstrating that CPI from any angle is pointing to inflation in the near future.

The most interesting claim in the article is that the Federal Reserve’s printing press is, in effect, churning out fresh dollars at no cost:

“The Fed may be printing money, but it’s not multiplying through the economy like it once did. That’s because banks are not using it to extend credit, said the economist. Also, our economy has generally become more resistant to the Fed’s reflation powers because of productivity gains from technology and globalization, the doves say.

‘The money multiplier has been broken for quite some time, and recently it is going lower,’ said Brian Kelly, of Brian Kelly Capital, citing money supply data that for every $1 pumped into the economy only 76 cents is being created. ‘In effect, monetary policy has been losing its potency for 30 years. What the Fed is doing now is stepping on the gas while the tires spin in the mud.'”

I would love to see more data on that because over those same 30 years the Federal Reserve’s monetary accommodations have been credited with creating shallow recessions before 2008, averting a complete financial meltdown in the last recession, and, most recently, driving stocks on a 30% rally since late summer of 2010. Of course, easy money from the Federal Reserve has also been blamed for assisting and outright creating the our triple bubbles in tech stocks, housing, and credit.

It seems that one’s inflation expectations often hinge on the imagination: either you believe the generally accepted inflation data as indicative of a tame future inflation outlook, or you look at specific (even pervasive) examples of inflationary pressures as warnings of what is to come. I have clearly been in the latter camp.

Looking at CPI from all angles suggests an imminent problem

I typically ignore most of the inflation numbers reported by the government, but I could not resist reading Calafia Beach Pundit’s latest piece titled “Consumer price inflation is heating up.” Calafia takes a look at the CPI from all angles, month-over-month, year-over-year, rate of change, and even non-seasonally adjusted (which is the basis for payments to TIPS). Calafia convincingly demonstrates that all arrows are pointing upward for inflation. He even concluded that China’s current struggles with inflation will be America’s future inflation problem:

“The ongoing rise in China’s inflation rate is making headlines today, but U.S. inflation is not too far behind, as this chart shows. It’s not surprising that inflation should be moving higher both in China and the U.S., since China has essentially outsourced its monetary policy to the U.S. Federal Reserve by pegging the yuan to the dollar. Chinese inflation is somewhat more volatile than ours, and that is also not surprising since its economy is smaller and less burdened by long-term supply and labor contracts. If China has an inflation problem, then so does the U.S. It will just take longer for the problem to become obvious in the U.S.”

This piece is a must-read.

Disclosure: author is long TIPS

Shadow Government Statistics reports a 9.6% inflation rate using pre-1980 methods

CNBC provides a revealing summary of the latest newsletter from Shadow Government Statistics (SGS). According to SGS, inflation is running at a 9.6% clip using BLS methods in place before 1980 that did not use hedonic adjustments to try to account for the change in quality of products. Rolling back just 22 years gives a 5.5% inflation rate.

See “Inflation Actually Near 10% Using Older Measure” for more details.

Still room for more rate hikes in China

In “China inflation may hit 6 pct, no end to tightening -paper“, Reuters reports that the official China Securities Journal insists fighting inflation is the number one job for monetary authorities. Given a consumer price index hitting 32-month highs in March and likely to rise as high as 6% this year, China will continue to hike rates to thwart these inflationary pressures.

Yesterday, China’s central bank increased interest rates for a fourth time in six months.

Wal-Marts CEO warns consumers on inflation

When the nation’s low-cost leader in retail warns about rising prices, people listen. Late last night, USA Today interviewed Wal-Mart (WMT) CEO Bill Simon in an article titled “Wal-Mart CEO Bill Simon expects inflation.” Nothing in the article comes as a surprise to those of us paying attention to inflation but having Simon issue this warning gives a lot more credence to the assessment that inflation, and inflation expectations, are slowly but surely coming unhinged.

The article includes a video in which Simon notes that inflation is “starting to creep into the business.” He started seeing inflation pressures late last year in items like dairy and is now seeing it in transportation-related goods like paper. (I assume he meant goods that carry heavy transportation costs). The article also features some cautionary commentary from a retail analyst.

Key quote from Simon in the article:

“…Inflation is ‘going to be serious…We’re seeing cost increases starting to come through at a pretty rapid rate.'”

NPR blog is hosting an informal poll on inflation expectations here: “Wal-Mart CEO Sees Inflation Ahead; Do You?

Wal-Mart's stock is still down from the beginning of 2010

Wal-Mart's stock is still down from the beginning of 2010

Laurence Meyer confident in Fed’s ability to respond to an increase in inflation expectations

Laurence H. Meyer, a former governor of the Federal Reserve, wrote an op-ed in the New York Times titled “Inflated Worries” in which he confidently argues that inflation expectations remain well-contained and even if they became unhinged, the Federal Reserve is ready to respond quickly:

“The Fed, this argument goes, just won’t be able to act quickly enough to turn off the spigot when the time comes to do so.

But the Fed can raise interest rates directly any time it wants. In addition, it could start to sell the huge volume of Treasury securities and other financial assets on its books, which would also place upward pressure on rates.

Would the Fed act in time? I expect that it will. And even if it doesn’t act in time, and inflation expectations start to get out of line, I am confident that the Fed would tighten monetary policy quickly and aggressively enough to restore price stability and maintain its credibility on inflation. You can take that to the bank.”

Meyer’s unspoken assumption in this piece is that unemployment would not be so high that it discourages the Federal Reserve from acting. Ben Bernanke has made it abundantly clear that unemployment is front and center and that the growing concerns about inflation around the globe are not his or America’s concern. So, I remain extremely doubtful that the Federal Reserve is unconditionally prepared to act in the face of rising inflation expectations.

Meyer also explains in his piece the difference between core and non-core (or headline inflation). He disabuses the audience of the notion that higher food and energy prices increase inflation expectations citing Federal Reserve research that “…unequivocally tell us that core inflation better predicts overall inflation tomorrow” (see “Estimating the common trend rate of inflation for consumer prices and consumer prices excluding food and energy prices“). However, Meyer blithely ignores the study’s conclusion that this relationship did NOT hold during the 1970s and 1980s: “In the 1970s and early 1980s, movements in overall prices and prices excluding food and energy prices both contained information about the trend.” In other words, there is little in this study to suggest that the relationships are stable.

Ultimately, I think those who argue that there are fundamental, structural pressures that indicate increasing energy and food prices are reflective of inflation’s future direction, especially once supply constraints finally show up in more sectors of the economy, will prove to be the most prepared for the future. In other words, today’s food and energy inflation has been an early outcome of easy money policies because supply constraints and demand dynamics are most readily exploited in these sectors of the global economy right now. (I made a related argument when discussing the recent rapid increase in coffee prices).

Hopefully through inflation watch you have been able to note the growing pockets of inflation pressure and the increasing power companies have to raise prices at least at the producer level…

Inflation cited as major factor in historic decline in UK standard of living

The Institute for Fiscal Studies (IFS) released a study on March 21 noting that the recession and recovery period in the United Kingdom from 2008-2011 marked “…the first time that incomes have fallen over a three-year period since the three years from 1990 to 1993, and the biggest three year drop in real living standards since 1980-83.” Real household incomes fell a total of 1.6% over this time whereas in “normal” periods the typical UK household experiences an average income gain of 1.6% per year.

Inflation racing ahead of wage gains was cited as one of the most important factor contributing to this historic decline. Lower interest rates for savings had a large impact on the standard of living for retirees.

Deflation on earning power and inflation in the cost of household purchases has placed a double squeeze on UK residents. In this context it is interesting to note Bank of England governor Mervyn King lamentations during last month’s conference call to defended monetary policy in the latest Inflation Report. King partially defended the on-going accomodative monetary policy in the face of inflation stubbornly above the inflation target of 2%. King asserted that the recession was going to reduce the standard of living either through deflation of wages (impact from the economy) or the increased prices of purchased goods (impact from monetary policy). In his view, this adjustment appears inevitable. However, this recent study by the IFS seems to suggest that in trying to choose the “least bad” option, the UK may end up stuck swallowing both bad options.

The chained consumer price index returns to pre-recession highs

Thanks to a CNBC article titled “US Cost of Living Hits Record, Passing Pre-Crisis High” by John Melloy, I discovered/realized that the chained consumer price index has now returned to its pre-recession highs. This index measures the cost of living for Americans living in urban areas. You can think of it as the cumulative impact of inflation over time. In 2000, this index measured 102 (normalized to 100 for 1999). It hit an all-time high of 126.918 July, 2008, right before the recession savaged the economy. This cost of living index hit 127.429 in February (2011). (Click here to get the historical data – select “C-CPI-U US All Items – SUUR0000SA0”)

Chained CPI has made a full recovery from the recession

Chained CPI has made a full recovery from the recession

Source: Bureau of Labor Statistics

Melloy appropriately observes at the end of his article:

“The cost of living for Americans is now above where it was when housing prices were in a bubble, stock prices at a record, unemployment low and consumer confidence was soaring. Something has gotta give.”

It is difficult to predict how these inflationary pressures will resolve themselves – having more historical data on this index could help. But at least this small window on overall cost of living provides one more confirmation that a fear of deflation remains misplaced sentiment.

Hansen argues the CPI should include food prices

Steve Hansen at “Global Economic Intersection” presents a compelling case arguing that food prices should be included measures of core inflation (the Consumer Price Index, or CPI). Hansen simply looks at the history of the core CPI excluding food and energy versus CPI for food only versus CPI for energy only and comes to the easy conclusion that “…there is strong correlation between food price increases and the overall Consumer Price Index (CPI)…with only rare periods of exception.”

His closing remarks on the topic are a vivid reminder of one of the many reasons I care so much about “Inflation Watch”:

“Inflation is a very personal enemy for most Americans who live paycheck to paycheck. When your paycheck does not get larger, and the prices go up – you must cut something out of your life. And when Fed Chairman Bernanke says inflation is low – you know that he is addressing the segment of the population which does not live paycheck to paycheck.”

The impact of rising food prices in the U.S.

Jeff Cox at CNBC provides a good accounting of the price hikes in various foodstuffs December-to-January and year-over-year (January):

* Ground beef up 6.8 percent month over month, and 11.1 pct year over year.
* Butter, up 3.2 percent monthly and a stunning 27 percent over the past year.
* Coffee, up 6.5 percent and 16 percent.
* Potatoes, up 3.6 percent and 7.1 percent.
* Lettuce actually fell 5 percent monthly after a spike higher in December, but is up 5 percent over the past year.
* Bread up 1 percent and 3 percent.
* Chicken up 0.8 percent. and 4.3 percent .
* Egg prices have been fairly steady.
* Milk, down slightly month over month, but up 2 percent year over year.

Orange juice and wine are actually down year-over-year, 1.6 and 6.9% respectively.

Overall, Cox finds the inflation gauge from the CPI very unsatisfying given fuel and food now consume over 12% of after-tax income. As deflation fears are becoming a distant memory, I expect the grumblings to grow ever louder that inflation feels and is much higher than official statistics are telling the general population.

Economist Diane Swonk sees continued inability to pass along price increases to consumers

CNBC’s Lori Ann LaRocco interviewed Diane Swonk, Chief Economist at Mesirow Financial, about the status of the economy.

Swonk noted that most of her clients are worried about inflation. However, she sees inflation as a two-sided coin. On one side, inflation is squeezing producers, but companies that deal with consumers cannot pass on price increases:

“I remind [my clients] of how little pass through inflation that we have experienced in the last decade.

When I ask them how much they have passed along to consumers and you see a fairly substantial break. There are those who can pass along some of the increase in costs if their clients are other businesses. Those who deal with consumers can’t pass along the increases as easily or are paying the price in volume if they do.”

Swonk also notes that rising oil prices will be destructive for all economies. In particular, higher oil prices will further increase food prices and magnify the suffering of poorer nations, leading to yet more social unrest.

Germany faces increasing inflation pressures

While governments in several emerging markets are rushing to contain inflation pressures, governments in developed economies in Europe and North America are idling in the hopes that external inflation pressures are not bad tidings of things to come. Germany could become a prime example of the mounting pressure between the need to maintain stimulative monetary policy for one part of the economy (the periphery of Europe) even while other parts heat up.

On Wednesday, Bloomberg reported: “German Import-Price Inflation Accelerates to Fastest in More Than 29 Years.” The various statistics on inflation in Germany are eye-popping:

  • Import-price inflation accelerated to 12 percent, the highest rate since October 1981, from 10 percent in November
  • In the month, prices increased 2.3 percent, almost double the 1.2 percent forecast by economists
  • Energy was 34.2 percent more expensive in December than a year earlier
  • Iron ore prices soared 98.4 percent
  • Non-iron ore metals cost 37.9 percent more
  • German consumer-price inflation accelerated to 1.9 percent last month, pushing the euro-area rate to 2.2 percent, the first time it has breached the ECB’s 2 percent limit in more than two years

For those of us who never believed that deflation was a serious threat given the monetary actions of central banks across the globe, we must now wonder how much longer will it take for inflation to start hitting consumers across a broad array of purchased goods.

Inflation Expectations Are Not Contained in China

In “Chinese Consumers Signal Deepest Concern With Prices Since 1999“, Bloomberg reports that inflation expectations are definitely not contained in China.

A survey conducted by China’s central bank reveals troubling trends in inflation expectations amongst the Chinese people on the heels of the biggest increase in price levels in 28 months and food costs soaring 12%:

“A price satisfaction index fell to 13.8 this quarter, the lowest level since data began in the fourth quarter of 1999, the central bank said on its website today.

In total, 74 percent of households considered prices too high, up 15.6 percentage points from the third quarter, the central bank said. Its fourth-quarter survey was of 20,000 households in 50 cities.

Inflation expectations are ‘intensifying,’ the central bank said, with 61 percent expecting price gains in the next quarter. In the previous survey, the proportion was 46 percent.”