Gurk!

Not good:

FT.com / World / International economy - US inflation rising faster than expected: By Christopher Swann and Andrew Balls in Washington: US inflation rose at twice the pace economists had been expecting in March, further reducing the chances that there will be any respite this year from rising interest rates. The headline consumer price index climbed 0.6 per cent - boosted by a 4 per cent rise in energy prices. Over the past year consumer prices have increased 3.1 per cent. But it was the rise in underlying inflation that most alarmed analysts. Core inflation - excluding food and energy - climbed by 0.4 per cent, double the increase economists had been forecasting. The data comes a week after weak retail sales and consumer confidence figures, raising the prospect that the Federal Reserve may be sandwiched between rising inflation and weaker consumption...

Comments

[howard]

stagflation, baby, the logical outgrowth of bush league economics....

[anne]

There is the problem, inflation moderately increasing and a foolish wish on wish that the dollar might lose value against Asian currencies. But, a loss in value of the dollar will increase price pressure and mean less international demand for American debt. Interest rates will rise, adding to any rise that the Federal Reserve has fostered, and the Fed will not easily counter such an added interest rate rise. A difficult problem.

[notyou]

I need a refresher -- I thought inflation was the result of too many dollars chasing too few products. But if retail sales are down, then dollars aren't chasing products hard enough. So inflation is coming from elsewhere -- rising transportation/energy costs being passed along to consumers? I assume there's a limit to how much cost-passing can occur before consumers get the message and curb their buying. Then what?

[bakho]

This situation calls for a fiscal fix. Raise taxes on the upper incomes to take money out of circulation and put a lid on inflation. Use the tax dollars to invest in infrastructure and worker training to keep unemployment down.

[anne]

Were growth to slow significantly there would be an easing of price pressures, but if growth has slowed it has does so moderately and recently and prices do not adjust so quickly. There is a moderate increase in inflation which is the result largely of producer price increases for basic materials or resources. An unfortunate effect of a slowing of growth will be further strain on the labor market, though labor costs are not contributing to the moderate price increases.

[anne]

What is bothering is the sense that monetary policy is too tight for the sake of the labor market. The Fed will continue to tighten, but growth is none too high for the sake of the labor market and the last thing to wish for are even higher rates that would result from a sharp loss in dollar value.

[anne]

Notice that the long term Treasury note is at 4.21%; barely a ripple after the release of the Consumer Price Index. These low long term interest rates, beyond the international support, are still most surprising.

[kharris]

The annualized 3-month rise in broad services prices is 4.0%. Services prices ex-energy are also rising at a 4.0% pace over 3 months. Medical care prices are rising at a 6% annual pace in Q1. Apparel 3.4%, vs flat over 12 months - so much for trade with China driving down clothing prices. There was a bit of talk from Wall Street economists about hotel rooms and clothing being the problem, but that's not quite right. Hotel and apparel price gains explain the difference between what was forecast and what was published. They explain the forecasting miss, not the entire core CPI rise. Prices are accelerating across a wide variety of goods. Most categores in the CPI reports rose at a faster annualized pace in Q1 than they rose over the past 12 months.

The good news is that, when you apply PCE deflator weightings to changes in CPI prices, the core PCE deflator looks set for a 0.2%-0.3% rise in March, not enough to get the core PCE deflator near 2%, not by a considerable margin. Fed guys prefer the core CPE deflator as a rearview mirror on policy over the CPI. The trend in the core PCE deflator is much less threatening than than in core CPI.

[kharris]

Ugh... "Fed guys prefer the core PCE deflator..." That's PCE, not CPE. Sorry.

[howard]

ah, anne, the conundrum of low long-interest rates. I'm convinced that we can ascribe it all to China, Japan, and South Korea. The indicator to watch, i suspect, is the 10-year TIPS vs. the 10-year plain vanilla.

kharris, please forgive my ignorance; while i'm sure i could look it up, it's probably better to ask you to expain how the PCE deflator is calculated and why the fed guys prefer it.

[anne]

KHarris

Nicely done. "Prices are accelerating across a wide variety of goods." Gently accelerating, but so they are and the Fed will continue to raise though I would wish otherwise.

[matt]

Gee, I haven't heard the term stagflation bandied about since the last time Rumsfeld and Cheney served in the Executive Branch of government, the former as Ford's chief of staff and the latter as his deputy.

Nice to see the boys haven't lost their touch or forgotten their roots. And it's good to see what turning the clock back means for our country.

[anne]

The PCE price deflator is simply the broadest of the prices indexes.

The difference between inflation protected notes and common long term Treasuries averages about 2.70 percentage points.

[anne]

http://www.nytimes.com/2005/04/18/opinion/18krugman.html

A Whiff of Stagflation
By PAUL KRUGMAN

In the 1970's soaring prices of oil and other commodities led to stagflation - a combination of high inflation and high unemployment, which left no good policy options. If the Fed cut interest rates to create jobs, it risked causing an inflationary spiral; if it raised interest rates to bring inflation down, it would further increase unemployment.

Can it happen again? ...

[tea]

To get stagflation in economies with hard currencies, you need a combination of 1) rising wage inflation 2) growing resource constraints, 3) slowing productivity growth, and 4) falling currency. We had all the four influences in the 70s. Currently, 1) is not in sight. 2) is increasingly visible. As for productivity, we are in the midst of a typical cyclical slowdown. Nothing more. There is no reason to believe that the secular trend in productivity has changed. 4) Falling currency in world of tight global capacity, as in the 1970s, is inflationary. The current global economy is characterised by overcapacity, at least in finished goods. Nevertheless, the disinflationary influence that the rising dollar had through much of the 1990s won't be there. In sum, stagflation is hardly likely. Monetarists should check their facts. The link between money growth and inflation is nonexistant to weak at short to medium term periodicity. The link is strong at 20-40 year cycles. Inflation being caused by money is a pretty useless, if not downright erroneous, dictum for time horizons that most of us are interested in.

[anne]

http://www.nytimes.com/2005/04/18/opinion/18krugman.html

Last week fears of a return to stagflation sent stock prices to a five-month low. What few seem to have noticed, however, is that a mild form of stagflation - rising inflation in an economy still well short of full employment - has already arrived.

True, measured unemployment isn't bad by historical standards, and inflation is in the low single digits. But inflation is creeping up, and it's doing so despite a labor market that is in worse shape than the official unemployment rate suggests.

Let's start with the jobs picture. The official unemployment rate is 5.2 percent - roughly equal to the average for the Clinton years.

But unemployment statistics only count those who are actively looking for jobs. Every other indicator shows a situation much less favorable to workers than that of the 1990's. A lower fraction of the adult population is employed; the average duration of unemployment - a rough indicator of how long it takes laid-off workers to find new jobs - is much higher than it was in the 1990's.

Above all, the weak job market leaves workers with no bargaining power, so they aren't getting ahead: wage increases have been minimal, and haven't kept up with inflation.

Underlying these disappointing numbers is sluggish job creation. Private-sector employment is still lower than it was before the 2001 recession.

Things could be, and have been, worse. But those whose standard of living depends on wages, not capital gains - in other words, the vast majority of Americans - aren't feeling particularly prosperous. By two to one, people tell pollsters that the economy is "only fair" or "poor," not "good" or "excellent."

Why, then, has the Fed been raising interest rates? Because it is worried about inflation, which has risen to the top end of the 2 to 3 percent range the Fed prefers.

What's driving inflation? Not wages: labor costs have been falling, because wages are growing less than productivity. Oil prices are a big part of the story, but not all of it. Other commodity prices are also rising; health care costs are once again on the march. And a combination of capacity shortages, rising Asian demand and a weakening dollar has given industries like cement and steel new "pricing power."

It all adds up to a mild case of stagflation: inflation is leading the Fed to tap on the brakes, even though this doesn't look or feel like a full-employment economy.

We shouldn't overstate the case: we're not back to the economic misery of the 1970's. But the fact that we're already experiencing mild stagflation means that there will be no good options if something else goes wrong....

[elizabeth_a]

co·nun·drum (kə-nŭn'drəm) pronunciation
n.

1. A riddle in which a fanciful question is answered by a pun.
2. A paradoxical, insoluble, or difficult problem; a dilemma: “the conundrum, thus far unanswered, of achieving full employment without inflation” (Arthur M. Schlesinger, Jr.).

[anne]

Elizabeth A

Remember 1997 to 2000, and the benign unemployment rates and inflation levels. There was the puzzle solved :)

[elizabeth_a]

Let me ask a stupid question. Why not just let there be a little inflation?

[anne]

http://www.foreignaffairs.org/20050501fareviewessay84312/j-bradford-delong/sisyphus-as-social-democrat.html

May/June 2005

Sisyphus as Social Democrat
J. Bradford DeLong - Foreign Affairs

John Kenneth Galbraith: His Life, His Politics, His Economics. Richard Parker.

Summary: John Kenneth Galbraith's dazzling career as an economist and public intellectual has left an oddly thin legacy. A new biography sets out to explain why -- tracing, in the process, the rise and fall of twentieth-century American liberalism.

If there were justice in the world, John Kenneth Galbraith would rank as the twentieth century's most influential American economist. He has published several books that are among the best analyses of modern U.S. history, played a key role in midcentury policymaking, and advised more presidents and senators than would seem possible in three lifetimes. Yet today, Galbraith's influence on economics is small, and his influence on U.S. politics is receding by the year.

In this lively and thoughtful biography, Richard Parker sets himself the task of explaining Galbraith's career: why it was so dazzling, and why its long-term impact has turned out to be so much less than expected. The result is not only the story of a smart, witty, and important man, but also a fascinating meditation on the rise and fall of twentieth-century American liberalism....

[anne]

Elizabeth A

"Why not just let there be a little inflation?"

Just so, from 2% to 2.5% would seem fine, and to my continuing surprise long term Treasury yield suggest just this range though there may be distortions in reading the yields properly because of buying by international central banks and hedge funds.

[anne]

Brad Setser suggested in a note that we would expect to find higher interest rates given the level of the domestic deficit. There should be crowding out of investment as the Treasury bids for capital along with corporations. But, the low level of long term interest rates tells us there is no crowding out. A 4.21% Treasury note tells us there is no crowding out. So, domestic investment is not sensitive to interest rates at this time. Corporations are saving more than we would suppose, investment is less than we would suppose.

[knut wicksell]

So the inflation rate is up 30 basis points and the fed rate is up 25 basis points. Doesn't look all that good future-inflation wise, not to mention real return on dollar-denominated investments.

Why is the ten-year yield still so low? I swear to God, this is the damndest thing I've seen in a long time. Are investors predicting a hair-raising depression? If so, why are they holding equities?

[anne]

Elizabeth A and Knut Wicksell, just the questions we must continue to argue about. Remember, though, Brad Setser's note:

There is no crowding out of corporate investment. There is less demand for capital than we would prefer, so less for labor. Long term interest rates stay low no matter our puzzling, but investment is too limited.

Brad DeLong tells us there is a bond market bubble, but evidently a bubble that has a surprisingly limited effect on investment.

As for prospective domestic returns for investment, they can not be all that promising given the wash of savings from domestic corporations and international public and private sources.

[howard]

anne, thank you for bringing up an important point: there is no crowding out because there is insufficient business investment taking place to cause the crowding out. This is where the stag part of the economic future comes from.

meanwhile, the chinese, the koreans, and the japanese will keep loaning us money with which to buy their exports as long as it makes sense to them to do so, which, who knows, could be quite a while. Any sign of a buyer's strike, though, and the conundrum (thanks, Elizabeth A., awesome find!) of low long interest rates will stop puzzling us. As the prof has noted on many occassions, rational hedge fund investors should be short long bonds, but they aren't because they fear the greater power of Asian central banks. The minute they lose that fear....

Anne, yes, the spread has been hovering around 2.7; a change in that spread will tell us what's happening with expectations even if long rates themselves don't move much....

[Unstable Isotope]

Is this the beginning of stagflation? The market seems confused on whether a slow-down is occurring or is inflation increasing - the possible explanation is both. I heard today that even though productivity has been rising, wages aren't rising. This is definitely a weird economy right now.

[ogtob]

Unexpected Inflation vs. Expected Inflation. Hmm... how interesting.

[DOR]

I'm asking this question in various blogs:

What would the inflation rate have been if the Senate's 27.5% tax on imports from China was currently in place?
.

[anne]

Howard

You have fretted over just these probabilities for quite some while. Nicely considered indeed :) There is more thinking left for us.

[chris]

One scary thing from 2001 till the baby step tightening is the Fed pushed long term rates so low and employment didn't budge except for employment in real estate related enterprises. Loosening rates with looming inflation to increase employment now, but where are the jobs going to come from? Retail and more real estate careers?

The long end of the bond market, is that where the Asian bankers are buying and suppressing long rates? That's sort of the question.

Scary thought, is Caribbean hedge fund buying of bonds supported by Fed lending to the fund bankers?

There is a group of hedge funds; we won't know really who runs and who invests in these funds till they blow up then individual funds become clear. The regular newspaper reader who didn't get invited to invest will be pressed into the bailout gang.

In case the Senate imposes the 27.5 % tariff on China, who cares what the inflation rate is, we're going to be watching missiles flying. The Bush administration will give us a chance to relive the trials of the Greatest Generation, depressioin and world war.