Is Inflation Moderating?

Beginning with the March, 2007 FOMC statement, the Fed has stated that its primary concern is that inflation will not moderate as expected. The FOMC statement and minutes from the May, 2007 meeting and a CNBC interview with Chicago Fed President Michael Moskow on Friday reiterate this concern.

This suggests the inflation measure(s) the FOMC consults when determining monetary policy are at the upper end of their (collective) comfort range. The two charts below (click for larger image) show headline/core CPI and PCE inflation from 2000 to the present. Contrary to traditional headline/core inflation measures, the core inflation measures created by two regional Federal Reserve Banks show that inflation has not fallen from its levels of 2005 through early 2006.



Both year-over-year CPI and PCE headline inflation have decreased significantly from their levels of 2005 through early 2006. Compared to the same historical period, both measures of PCE core inflation have barely budged, and all measures of CPI core inflation have risen.

Both the PCE less Food & Energy and the Dallas Fed's Trimmed Mean PCE inflation measures have declined slightly since their respective peaks in late 2006. The Trimmed Mean PCE has fallen slightly less, however. Also worth noting, the spread between PCE less Food & Energy and Trimmed Mean PCE seems to be a pretty steady 20-30 bps.

CPI inflation is more interesting. CPI less Food & Energy inflation has fallen from its late-2006 peak of nearly 3% to less than 2.3% in April, 2007. However, 16% trimmed mean inflation has only fallen from 2.9% to 2.75% over the same period. Further, median CPI inflation remains near its levels (3.5%) of late 2006.

Moskow said, "The last quarter, GDP growth was very low – six-tenths of a percent. That’s history now. This quarter should be much stronger and, as we move through this year into next year, I see us moving toward potential growth, or long-term trend growth, in the economy." But if productivity continues falling and wage growth continues accelerating, I'm not sure what the Fed expects will contain inflation pressures. Then again, maybe that's why the FOMC's primary concern is inflation failing to moderate as desired...

I'll provide an update when May's CPI data come out on 6/15.