The Price of Everything

With the release over the next two days of the government’s two main inflation indicators – the Producer Price Index, due Tuesday, and the Consumer Price Index, set to be announced Wednesday – the markets, policymakers and financial media are likely to be focusing on this topic for the first time in a while. Lately, the only thing price-wise that has gotten much attention is the big decline in oil prices since the all-time high in July.

Wall Street forecasters on average are predicting the CPI fell in October by 0.7 percent after zero change in September, and are looking for October’s year-on-year increase to be 4.0 percent after a 4.9 percent rise in September.

Those estimates are based on the seasonally adjusted index, of course. I’ve been looking at the unadjusted figures going back to 1913, and frankly I don’t see any evidence of strong seasonal tendencies in this index, which is already kind of overprocessed without adding seasonal assumptions to the brew. And I’m not even going to talk about the inane “core” inflation concept, which excludes food and energy prices, allegedly because of their “volatility.”

In any case, one group that ought to be paying close attention to these numbers, adjusted or not, is the Federal Reserve’s interest rate-setting Open Market Committee. The minutes from that august body’s latest meeting are due for release Wednesday afternoon. Given that the FOMC opted at that meeting to cut the Fed’s main interest rate again, it seems likely that they decided (again) that inflation isn’t much of a threat right now.

I’d say the following chart argues otherwise:



What the chart (click on it to enlarge; right click to open in a new window) shows is pretty straightforward, with no massaging or processing: It’s the CPI, not seasonally adjusted, going back to 1990.

The top line of the orange-colored trend channel actually connects all the way back to a big spike in inflation that resulted from war-related shortages – World War I, that is. So as a growth rate, it generally represents the maximum rate of increase in inflation over a period of about 90 years.

But as you can see toward the right side of the chart, the CPI’s rate of increase accelerated at the beginning of 2004, as indicated by the red trend channel. By the middle of 2005, the index had actually broken above the 90-year top trendline. And by April of this year, it outpaced even the new, faster rate of increase, as indicated by its breach of the upper red line.

The all-time high in the index was set this past July, and the index has declined slightly since then. As mentioned above, the forecasters on Wall Street believe it fell again in October, and if there’s any seasonal tendency in this index, it’s toward an easing of the rate of increase during the fourth quarter. If the prediction of a 0.7 percent dip is correct, it will be the biggest monthly drop in the CPI (seasonally unadjusted) since November 2005. But it won’t be enough to drop the index below the top red line on the chart, let alone to bring it back into the long-term trend channel.

For some time now, high inflation combined with an economy in recession – “stagflation,” to use the term coined in the 1970s – has been the ultimate nightmare scenario for policymakers, politicians and investors. The Fed clearly thinks it has a better chance of warding off recession, by cutting interest rates, than of cooling off inflation, which would require raising interest rates. But if the rate cuts don’t keep the economy from declining – and so far, they obviously haven’t, as the latest gross domestic product numbers attest – they still stand a good chance of keeping inflation climbing.