Beware: Core CPI Follows Food Inflation

Many economists try to separate food and energy prices increases from their analysis of inflation.  While it is true that both are volatile, there is strong correlation between food price increases and the overall Consumer Price Index (CPI) (the blue and red lines on the chart below) with only rare periods of exception.

Food is required for human existence.  When prices rise in one food sector, the public substitutes food from a lower priced sector.  Demand falls in one sector and increases in another.  The food basket overall wobbles within an ever increasing price trend.  It is the energy cost record which has a poorer historical correlation with both food and core CPI.  For this reason it is a fair question:  What is the justification for lumping food and energy together as exclusions from core inflation?  A more logical characterization would be to include food in core inflation and exclude only energy.

So when somebody tells you that food prices are not a sign of inflation, you can look them in the eyes and call bullpucky.  Food price increases and the Consumer Price Index travel in almost complete lockstep most of the time.

Econintersect (GEI), using the National Income and Product Accounts (NIPA) tables, has tried to recreate the breakdown of the Consumer Price Index weightings.  Not only did the total consumer spending amounts correlate with BLS data – the percentage breakdowns themselves came to within a few percent – except transport.

The differences in the breakdown of consumer spending between GEI and the BLS (who prepares the CPI) boils down to definitions.  The only category which was not readily explainable is transport.  GEI’s number includes vehicle purchases, fuels and maintenance – plus public transport – which is the same as the BLS.

The GEI “other” account (total of accounts 117 through 127, NIPA table 2.5.5) includes the costs of financing and insurances – and if distributed makes all the accounts match roughly the CPI number – except transport.  Econintersect also compared the USA breakdowns and the inflation rate to Canada’s – who should be in roughly similar conditions.  This indicates that the USA inflation figures are in the ballpark.

The bottom line is that the inflation number is derived based on total money flows in the economy.  Every economic group has a different profile – the young, the old, commuters, urban, the disabled, rural, rich, and poor.  The poorer you are, the larger the percentage of total income food and housing becomes.  In my particular case, the BLS method to calculate inflation is not even close to how inflation effects me.

The more money you have, the more options you have in rearranging your spending patterns to offset inflation.  The closer you come to subsistence levels – the greater the chance inflation overwhelms your existence.

It would be a fair argument that the way inflation is calculated applies only to the wealthiest.

Inflation is a very personal enemy for most Americans who live paycheck to paycheck.  When your paycheck does not get larger, and the prices go up – you must cut something out of your life.  And when Fed Chairman Bernanke says inflation is low – you know that he is addressing the segment of the population which does not live paycheck to paycheck.

Economic News this Week:

Econintersect’s economic forecast for March 2011 points to a moderately improving economy with all segments of its non-monetary index positive.  This week the Weekly Leading Index (WLI) from ECRI improved from 6.1%  to 6.5%.  This level implies the business conditions six months from now will be approximately the same as today.

Initial unemployment claims in this week’s release fell significantly again.  The data for the last two months as been quite noisy, and it remains important to follow the four week moving average for analysis of unemployment to smooth out the reporting idiosyncrasies.  Overall, the loss of jobs is improving – and is now roughly the same as mid-2008.

The data released this week was positive and consistent with Econintersect’s January and February forecasts of slightly improving economic conditions overall.  The economy, similar to this period last year at this time – is gaining strength.

Weekly Economic Scorecard:

Item	Headline	Analysis
February Employment Situation	Gain 192,000	Participation rate unchanged meaning no gain as % of population
February Factory Orders	Up 3.1%	Strong month for manufacturing
February ISM Non-Manufacturing	Up for 15th month	What is it indicating?  This index loosely is following retail sales
G-20		USA contribution to global imbalances are striking
February ADP non-farm private payrolls	Up 217,000	Are oil price increases about to pull the rug out of employment gains?
February ISM Manufacturing	Up for 19th month	New orders and backlog are improving
January Construction Spending	Down 5.9% YoY	Private sector construction is down 9% YoY
March Economic Forecast	Moderate Growth	Real consumer spending is falling
January Personal Income	Up 1%	Real disposable Income rose 0.4%,  real expenditures fell 0.1%
January Pending Home Sales	Down	Forecast February existing home sales at 305,000
China Inflation	4.8%	How are hot money inflows effecting inflation – what happens if it stops?
Merging International Stock Exchanges		Ajay Shah asks: Where are the gains in efficiency?
USA Fiscal Policy		Reagan Budget Director David Stockman argues for higher taxes and free markets
China		Michael Pettis questions applying Japan’s outcome of amassing reserves to China
Stock Market Price Levels		Doug Short says by one measure the market is overvalued

Bankruptcies this Week: None

Failed Banks this Week: None