Inflation is an awkward thing for most people to deal with. It’s like a monetary poltergeist, ghostly and supernatural in essence, but very real and potentially destructive in effect. Every now and then it swings through town and knocks on our doors, pushes the price of food and gas up or down in sympathy with whatever economic zeitgeist is in vogue, and the tiny financial expert sleeping inside every consumer wakes up.
This happened in the spring of 1980 when the all-items consumer price index, the headline inflation measure, increased more than 14% over the preceding year. It happened again, briefly and more quietly, in 1990, when annual inflation broke 6%, and there was an echo of the poltergeist in the summer of 2008 during the chaos of the financial crisis when inflation broke 5%.
But following this crisis-induced local peak and a recessionary trough, during which inflation was negative, overall inflation during the recovery has been pretty modest. The quarterly CPI has averaged about 2% growth since the end of 2009, which is in-line with the target rate maintained by the Federal Reserve, the nation’s monetary czar, and comfortably below the 3.6% average quarterly inflation rate since 1948.
Modest inflation has persisted despite the Fed’s aggressively accommodative post-crisis monetary strategy. Not only did the Fed reduce the target federal funds rate to the zero bound (between zero and 0.25%) in December 2008, where it has remained ever since, but it launched several rounds of quantitative easing. The result of this policy drove down interest rates, which typically fuels inflation. Accommodative monetary policy was one of the forces behind the high inflation in the late ’70s and early ’80s, and many hawks were quick to identify the familiar inflationary risks associated with the Fed’s post-crisis policies.
Are we there yet?
With QE winding down and the FOMC signaling that it will begin to raise interest rates at some point, is it safe to say that we’ve finally achieved price stability? In the Dallas Fed’s October economic letter, President Richard Fisher, a hawk, wrote that, “No, we are not ‘there’ yet. However, there are good reasons to believe that we’ll achieve our full-employment and price-stability objectives fairly soon — perhaps as early as next year.” Looking ahead, Fisher reports that, “The current median expected inflation rate one year from now, in third quarter 2015, is 2%.” Similarly, headline unemployment is hovering around 5.5%, which approaches the range of estimates for the natural rate of unemployment.
But the cost of living in the U.S. is on the move; moderate or flat headline inflation doesn’t mean that the prices consumers pay for all their staple goods are drifting agreeably in unison. The CPI is, after all, just an index. In April, the all-items CPI spiked 0.1% on the month, while the index for food sat unchanged, and the index for energy prices bumped up 1.3%.
Together, food and energy account for about 24% of the CPI, but because food and energy prices are typically volatile, they are excluded from the calculation for core inflation. The core CPI excluding food and energy was unchanged at 0.2%.
The overall increase in energy prices over the past 10 years, though dramatic, masks the extreme volatility that occurred along the way. Energy prices surged in the lead up to the financial crisis before crashing. Prices began to rebound quickly but have not returned to their pre-crisis peak and have been pretty much flat since 2011. That, however, has changed over the past several months, as we’ve seen oil prices plummet.
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