The Fed Uncaps Its 2% Inflation Target With Most Costs Above That Already

Acknowledging the inevitable, the Fed says higher inflation is OK, but a rally in commodities, especially crude oil, will take headline inflation rates to levels not seen in two generations. Right now, the pandemic is the only thing keeping that from happening.

The latest release of inflation data from the US Bureau of Labor Statistics confirmed what consumers already know: virtually every category of inflation is above 2% with the exception of apparel, energy, and things that are related to energy, such as transportation.

A close look at the detailed categories of CPI and their twelve month percentage changes in price reveals the true nature of inflation in the current economy. “Food” as a general category is showing the highest inflation rate, up 4.1% with subcategories ranging from a 2.3% rise in prices for fruits and vegetables to an 8.4% price hike in the “meat, poultry, fish and eggs” category. None of this is a shock to anyone who’s been grocery shopping lately.

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In contrast to food prices, the overall “Energy” category is showing the lowest rate of inflation at minus 11.2% with sub components like fuel oil down the most at minus 27.2% and electricity down the least at minus 0.1%. Gasoline is down 20.3% in case you are wondering. Fuel oil and gasoline are directly affected by the price of crude oil, which has not yet recovered to pre-pandemic price levels.

What about prices for everything else? In the CPI data there is a catch-all category called “All Items Less Food and Energy” and its 12 month overall inflation rate is 1.6%. But within that number are eighteen major and minor subcategories, ranging from airline fare showing a minus 23.7% inflation rate to medical care services showing a price increase of 5.9% in the past year. Overall, “Shelter” is up 2.4% with rents up 3.1% and home ownership costs up 2.8% respectively.

Anyone looking at the CPI data with more than a cursory glance at the headline number can see that energy costs are the primary drag on inflation. And energy costs are down primarily because of effects from the pandemic.

Without Covid-19, people would be traveling and shopping at malls again – buying more clothes than they need, driving their cars more, and taking more airline flights for business and pleasure. All of this will happen as the pandemic recedes, which it will. This will cause price increases in the few categories within the CPI data currently not experiencing inflationary price pressures; in turn, core inflation as reflected in the headline CPI number will rise, perhaps dramatically.

Federal Reserve Chairman Jerome Powell predicted in June that the economy would recover in about twenty months, which, if correct, has the economy running full steam ahead by 2022. Energy prices will recover and indeed rise with any hint of economic recovery, which should come with the end of the pandemic.

As energy prices, led by crude oil, come roaring back, the core rate of inflation will surge, probably much more quickly than anyone, including those at the Federal Reserve, might expect.

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