Inflation data have economists worried about deflation

Overall CPI prices fell 0.1% in June, in line with consensus forecasts, and the year-over-year headline CPI inflation rate slowed to 1.1% from 2.0%. Core CPI prices were higher than expected, rising 0.2% in June. However, the year-over-year core CPI inflation rate was unchanged at 0.9%.

BOTTOM LINE

With headline CPI inflation up only 1.1% over the last 12 months and core inflation holding steady at 0.9%, the inflation data will raise more questions at the Fed about too-rapid a disinflation (or deflation) risks, especially given the Phillips-Cure/output-gap models that dominate the Fed’s inflation thinking. The Fed maintains an informal target of 1½%-2% for consumer inflation and we are clearly running below these levels over the last year and even the last three months (although core PCE inflation picked up slightly over the last three months relative to its 12-month rate). Low actual inflation rates are one of the three factors the FOMC cites as warranting exceptionally low rates for an extended period and there is nothing here to suggest a language change anytime soon. Bernanke heads to Humphrey-Hawkins next week and it will be interesting to see how much of a disinflation spin he puts on these data (by the logic of his speeches in 2003, he should be quite concerned about the potential for inflation to fall too low). The good news for consumer real incomes comes from energy prices, which have fallen at an annualized rate of over 25% over the last three months, which should help support spending on other goods and services.

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