What’s going on with inflation?
Dallas Fed “Trimmed Mean” PCE, Year-Over-Year. Source: St. Louis Fed
Figuring out inflation is like asking about ice cream: there are a million flavors and variations. The Consumer Price Index uses a fixed basket of some 40,000 prices, surveyed monthly. The Commerce Department determines a deflator that shifts as the economy shifts. If the price of beef doubles and everyone switches to chicken, the index takes changing consumer tastes into account. And then there’s core inflation, regional inflation, and even asset inflation to consider.
My favorite measure comes out of the Dallas Fed. It’s a deflator that focusses on core price increases across the country, but one that also includes food and energy prices. Back when energy prices were soaring while policymakers maintained that core prices were stable, a common retort was to ask, “Don’t Fed officials eat or drive?” So, to get at a better indicator, the economists at the Dallas Fed created a “trimmed mean” inflation index.
This index is calculated the way it sounds. Analysts look at inflation components like figure-skating scores: they throw out the highest and lowest values and average the rest. This approach has been a better measure of core inflation than the traditional “ex-food and energy” indicator. And it makes intuitive sense. We want to get a sense of the major trends in consumer prices, without being distracted by volatile components – no matter which sectors they may come from.
Photo: David Carmichael. Source: Wikimedia
And what is this indicator telling us? Core inflation has been confined to a narrow range between 1.5% and 2% for the past six years. Six months ago, it looked like core prices might be headed higher – perhaps pulled up by higher incomes – but falling prices for data plans, apparel, and lodging have pushed the measure back down.
Inflation can be many things to many people. Too much inflation makes it hard to plan ahead; too little, and the economy feels stuck in a rut. The Fed may want inflation to move a little higher. But wanting something doesn’t always make it happen.
Douglas R. Tengdin, CFA