The puzzle that never really went away
years into the recovery from the financial crisis, American monetary-policymakers are still finding that inflation is strangely quiescent. Every time price pressures seem to build, they then dissipate. The latest peak was in July 2018. Inflation as measured by the personal consumption expenditure index, which the Federal Reserve tries to pin at 2%, was at 2.4%, and, in a rare heated moment—by the standards of the past decade—consumer-price inflation hit 2.9%.
The absence of stronger inflationary pressure has been a little bruising for the Fed. It has long predicted that upward price pressures would result from the economy—and in particular, the labour market—pushing against its natural limits. In preparation for that event, it has raised interest rates nine times since December 2015. Along the way it has explained dips in inflation as temporary. But self-doubt has grown all the while.
The risk is that this trend, though gentle, proves to be persistent. Figures for January were due to be released on March 29th, afterFalling core inflation can suggest a weakening economy. But only some components of inflation are procyclical. Restaurant meals, furniture and housing all seem to get pricier more quickly in booms. Other prices—like those of health care, financial services, clothes and transport—seem to follow their own tune.
What goes up can come down. A similar exercise by Gregory Daco of Oxford Economics, a consultancy, finds that the fall in core inflation since mid-2018 also reflects the acyclical part of the inflation mix. The cyclical component of inflation, meanwhile, has not much changed. It remains 0.7 percentage points below the average for 2004-07 . Amid signs of a slowdown in economic growth, there are even some indications that this component could be weakening.
In combination, these pieces of research suggest that underlying inflationary pressure did not subside in the second half of 2018, because it was never there in the first place. But that poses a bigger puzzle: why has the cyclical component of inflation been so muted, given the apparent strength of America’s labour market? That is the question for economists to tackle—ideally before it becomes moot.
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