Consumer Price Index Continues to Moderate in December 2011

by Steven Hansen and Doug Short

The Consumer Price Index (CPI-U) annual inflation rate fell to 3.0% in December 2011 from 3.4% in November. This was above the Econintersect expectation of 2.5%. Core inflation (CPI less food and energy) was unchanged at 2.2% annual inflation [note that the Federal Reserve uses 2.0% core inflation as an inflation target].

There has been some hinting at the Fed that inflationary targets may be flexible at this time with so much economic slack, and the Fed statements indicate they expect inflation to recede in the coming months.

First, the reasons for the change in the CPI from last month is food and medical, with energy prices continuing to offset these increases for the most part.

The Consumer Price Index for All Urban Consumers (CPI-U) was unchanged in December on a seasonally adjusted basis, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months, the all items index increased 3.0 percent before seasonal adjustment.

Similar to last month, the energy index declined in December and offset increases in other indexes. The gasoline index declined for the third month in a row and the household energy index declined as well. The food index rose in December, with the index for food at home turning up after declining last month.

The index for all items less food and energy increased 0.1 percent in December after rising 0.2 percent in November. The indexes for shelter, recreation, medical care, and tobacco all posted increases, while the indexes for used cars and trucks, new vehicles, and apparel all declined.

The all items index has risen 3.0 percent over the last 12 months, a decline from last month’s 3.4 percent figure. Recent declines in the energy index have brought its 12-month change down to 6.6 percent from 19.3 percent in September. The 12-month change in the index for all items less food and energy held at 2.2 percent, while the 12-month change in the food index edged up from 4.6 percent to 4.7 percent.

Yesterday, the Producer Price Index for finished goods (analysis here) declined to 4.8% which Econintersect calculated to be indicative of a CPI around 2.5%.  Historically, the CPI-U general index tends to correlate over time with the CPI-U’s food index.

The consensus forecast was for a month-over-month increase of 0.1% – higher than the 0.0% reported by the BLS. Core CPI month-over-month came in at 0.1%, with the expectation at 0.1%.

The Federal Reserve has argued that energy inflation automatically slows the economy without having to intervene with its monetary policy tools. This is the primary reason the Fed wants to exclude energy from analysis of consumer price increases (the inflation rate).

Detailed Analysis

The Bureau of Labor Statistics released the CPI data for December this morning. Year-over-year Headline CPI came in at 2.96%, which the BLS rounds to 3.0%, down from 3.39% last month. Year-over year-Core CPI came in at 2.23%, which the BLS rounds to 2.2%, up from 2.15% last month.

The first chart is an overlay of Headline CPI and Core CPI (the latter excludes Food and Energy) since 1957. The second chart gives a close-up of the two since 2000.

On this chart, we’ve highlighted the 1.75% – 2% range, which is generally understood to be the Fed’s target for core inflation. Here we see more easily see the widening spread between headline and core CPI since late 2010, although the headline rate of change has moderated over the past few months and declined in October.

Federal Reserve policy, which focuses on core inflation, and especially the core Personal Consumption Expenditures (PCE), will see that the latest core CPI is continuing to move above the top of the target range.

Caveats on the Use of the Consumer Price Index

Econintersect has performed several tests on this series and finds it fairly representative of price changes (inflation). However, the headline rate is an average – and will not correspond to the price changes seen by any specific person or on a particular subject.

Although the CPI represents the costs of some mythical person. Each of us need to provide a multiplier to the BLS numbers to make this index representative of our individual situation.  This mythical person envisioned spending pattern would be approximately: Food (15%),

  • Housing (42%),
  • Clothing (4%),
  • Transport (17%),
  • Medical (6%),
  • Pocket Money (6%),
  • Education (6%), and
  • Miscellaneous (4%).

The average Joe Sixpack budgets to spend his entire paycheck or retirement income – so even small changes have large impact to a budget.

The graph above demonstrates that fuel costs, medical care, and school costs are increasing at a much faster pace than the headline CPI-U – while housing and food costs generally mimic the headline CPI-U.

The Consumer Price Index contains hundreds of sub-indices which should be used to show price changes for a particular subject.

Because of the nuances in determining the month-over-month index values, the year-over-year or annual change in the Consumer Price Index is preferred for comparisons.

Econintersect has analyzed both food and energy showing that food moves synchronously with core. Remember 36% of the CPI is housing based (41% including energy) with 17% food and about 10% of the index is energy related.

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