Inflation About to Grab Hold?

The vocal fringe has been crying since the beginning of the Federal Reserve’s “innovative” policies that hyperinflation was about to take hold.    The Consumer Price Index headline inflation has nearly doubled rising 1.5% in the last four months to 3.2%, while core inflation (excludes food and energy) has risen a more moderate 0.37% to 1.33%.

The definition of hyperinflation lacks specificity to the exact inflation rate where hyperinflation starts – it is simply the point where a currency collapses.  Under this definition, there are no signs of hyperinflation.

I have always been amused by core inflation which is a backward looking scorecard.  It is trend lines which are important – because you must assume that the trend direction will continue into the future.

If the current rate of growth of inflation persists – the headline CPI will be over 6% at year end, while core inflation will be over 2% – above the Federal Reserves’ unofficial target rate of 2% for core inflation.

In a previous article, Econintersect has shown that food CPI (blue line in above graph) generally correlates to headline CPI (red line).   Energy (green line) has almost no correlation.  Past Fed studies have shown that energy has a transitory and self moderating effect on the economy –  not requiring active monetary intervention.

As the USA percent of global energy consumption continues to fall, it is easy to imagine a situation where a contraction in USA energy use will have little effect on global pricing.

The St. Louis Fed’s May 2011 Monetary Trends headlined this month a modified conclusion:

…………..fluctuations in the price of motor fuel (mainly gasoline) have caused most of the monthly noise and year-over-year fluctuations of headline CPI inflation over the past four years. Motor fuel is just one category in the energy component—the others are gas (piped), electricity, fuel oil, and other fuels—but motor fuel is a special case, as the [below] chart shows.

Recent year-over-year fluctuations in the CPI due to motor fuel are persistent. Over the past 4 years, the average annual inflation rate in the CPI has been 0.3 percentage points higher than the CPI excluding motor fuel.

In other words, gas (piped), electricity, fuel oil, and other fuels should be included in core inflation – as well as food.  But regardless of how you cut the current situation, price inflation has been engrained for the rest of 2011.

There is evidence the rate of price increases are moderating.  However, this last price spurt began at the beginning of 2011 as evidenced by gasoline prices.

Unless major moves are made in monetary policy, it is a slow step-by-step process for controlling inflation without risking economic growth.   Currently monetary policy is unthrottled to allow inflation into the system.  An acknowledgment in the 26 /27 April 2011 FOMC meeting minutes that energy costs do eventually creep into to core inflation:

Many participants had become more concerned about the upside risks to the inflation outlook, including the possibilities that oil prices might continue to rise, that there might be greater pass-through of higher commodity costs into broader price measures, and that elevated overall inflation caused by higher energy and other commodity prices could lead to a rise in longer-term inflation expectations.

Even if prices do not grow from this point, YoY inflation will grow through the end of this year – both core and headline.   It raising the question of whether the Fed intends to overrun their unofficial 2% core inflation target to put the final nail in the coffin of deflation, continue to try to use monetary policy to push employment growth, or possibly to purposely devalue the dollar.

Economic News this Week:

Econintersect’s economic forecast for May 2011 indicates a peaking of this current economic sub-cycle.  In simple words, the same rate of improvement of the moderate recovery seen in March and April will continue in May.

This week the Weekly Leading Index (WLI) from ECRI declined from a downwardly revised 6.4%  to 5.3%.  This level implies the business conditions six months from now will be approximately the same or slightly improved compared to today.  Also this week, ECRI advised a cycle peak this summer in global industrial production (news here).

Econintersect is viewing the decline in ECRI’s weekly coincident index with concern as it has been dropping without interruption for three weeks.  No real time economic pulse point that Econintersect uses is indicating a degradation (other than normal variation).

Using the preferred 4 week moving average, initial unemployment claims increased slightly in the latest release.  The data for the last three 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.   Claims remain above the dreaded 400,000 numbers which historically divides real employment growth from sub-par employment growth.

The data released this week were consistent with a moderately improving economy except for industrial production which statistically did not grow in April – this could be a reporting  anomaly influenced by the Japanese disaster, or it could be the economic cycle peak Econintersect forecast in April.  Regardless, key pulse point indicators continue to show the economic growth is moderating or pausing.

Weekly Economic Release Scorecard:

Item Headline Analysis
Global Doom & Gloom

According to European think-tank LEAP/Europe 2020, a major financial crisis is coming
Selecting New IMF Head

Clive Corcoran believes China’s monetary isolation sidelines their ability to influence selection of a new IMF head
May Philly Fed Business Survey
Less Good
Likely not excellent, but better than the pundits suggest
April Conference Board Leading Economic Index
Less Good
Not sure this index is properly indicating current economic conditions
April Existing Home Sales
Could be flat, but definitely not a great start to the high home buying season
Oil Prices

James Hamilton discusses pricing dynamics and the current downward trend

Elliott Morss points to growing  population obesity rates and its implications
CPI & Spending

Doug Short correlates inflation and spending
April Industrial Production
How much did inflation and the Japanese disaster play into these disappointing numbers
April New Home Construction
The data is showing new home construction is bottoming
May Empire State Manufacturing
less good
Core elements in the data do not show any change to moderate growth
Vegetable Nutrition

Elliott Morss shoots holes in current nutritional food scoring systems

Rick Davis’ Consumer Metric Daily Growth Index continues to contract

A combined economic view of the dark side of inflation
Global Power

Elliott Morss reviews the fragmentation of the power of traditional nation states
Restarting Real Economic Growth

Rick Davis recommends reformulating the economy with more financial control by Main Street
Pricing versus Leverage

Steve Waldman explains how leverage puts business a position were it cannot adapt to economic cycles

L Randall Wray discusses options for resolving Ireland’s economic dilemma.
USA Empire

Elliott Morss points out that 13,644 registered lobbyists stand in the way of proper governance.
Secular Cycles for Stocks

Ed Easterling reminds that cycles govern how investors should invest
Market Caution

Erik McCurdy runs through the warning signs of a possible market decline

Bankruptcies this Week:  HearUSA, Sun-Times Media Group (nka Chicago Newspaper Liquidation)

Failed Banks this Week: