October 2012 CPI Rises to 2.2% Inflation Year-over-Year

by Steven Hansen and Doug Short

The October 2012 Consumer Price Index (CPI-U) annual inflation rate grew from 2.0% to 2.2%. Core inflation (CPI less food and energy) was unchanged at 2.0% annual inflation.

The dynamics are energy and food price components were mixed – but the growth in food was more significant and over-riding. There inflation pressure from non-energy related components of the CPI came from shelter.

The Producer Price Index (released yesterday) shows crude goods are still deflating – and should bring headwinds for price inflation to the CPI.

Percent Change Year-over-Year – Comparing PPI Finished Goods (blue line) to PPI Crude Materials (red line)

As a generalization – inflation accelerates as the economy heats up, while inflation rate falling could be an indicator that the economy is cooling. However, inflation does not correlate well to the economy – and cannot be used as a economic indicator.

First, the major inflation issue in month-over-month CPI came from shelter.

The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.1 percent in October on a seasonally adjusted basis, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months, the all items index increased 2.2 percent before seasonal adjustment.

The shelter index increased 0.3 percent, its largest increase since March 2008, and accounted for over half of the seasonally adjusted all items increase. The index for all items less food and energy rose 0.2 percent, as the rise in the shelter index and increases in the indexes for apparel and airline fare more than offset declines in the indexes for used cars and trucks, new vehicles, and recreation.

The food index increased 0.2 percent in October with the index for food at home rising 0.3 percent, its largest increase since September 2011. The energy index, which had risen sharply in August and September, declined slightly in October. Major energy component indexes were mixed, with declines in the indexes for gasoline and natural gas more than offsetting increases in the indexes for electricity and fuel oil.

The 12-month change in the index for all items was 2.2 percent in October, an increase from the September figure of 2.0 percent. The 12-month change in the index for all items less food and energy remained at 2.0 percent. The food index rose 1.7 percent over the last 12 months, and the energy index increased 4.0 percent.

Historically, the CPI-U general index tends to correlate over time with the CPI-U’s food index. The current situation is putting an upward pressure on the CPI countering the downward pressure on the CPI by the Producer Price Index.

CPI-U Index compared to the Food sub-Index of CPI-U

Notice the gap in the above graphic between the CPI and Food – historically this gap has always closed when the knock-on effect from higher food prices into other CPI components moderates.

The market expected month-over-month CPI-U growth at 0.6% (versus 0.6% actual), with the core inflation expectations at 0.1% to 0.2% (versus 0.1% actual).

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).

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And one look at the different price changes seen by the BEA in this PCE release versus the BEA’s GDP and BLS’s Consumer Price Index (CPI).

Year-over-Year Change – PCE’s Price Index (blue line) versus CPI-U (red line) versus GDP Deflator (green line)

Detailed Analysis

The Bureau of Labor Statistics released the CPI data for September this morning. Year-over-year unadjusted Headline CPI came in at 2.16%, which the BLS rounds to 2.2%, up from 1.99% last month (2.0% in the BLS record). Year-over year-Core CPI (ex Food and Energy) came in at 2.00%, essentially unchanged from last month’s 1.98% (rounded to 2.0%).

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 the next chart I’ve highlighted the 2% level, 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, a pattern that began changing in October 2011 as headline inflation declined while core continued to rise, although it reversed directions earlier this year. We also see the jump in headline inflation since August owing mostly to the inevitable ripple effect of the rise in gasoline prices. With the decline in gasoline prices over the past several weeks (especially if it is sustained), we may see the headline number ease in the months ahead.

Federal Reserve policy, which focuses on core inflation, and especially the core Personal Consumption Expenditures (PCE), will see that the latest core CPI is fractionally above the target range, even though the more volatile headline inflation has fallen below two percent.

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:

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

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.

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