The Fed’s Inflation Mystery

With a five percent jobless rate that is close to full employment, inflation should be soaring. After all, if more people are working, they have more to spend. More to spend means more demand and higher prices. But the price level has barely budged.

And that is the mystery.

Solving the Mystery

Perhaps the baby boomers are why we have almost no inflation. Retired and spending less, the baby boomers are a disproportionately large and influential group. Similarly (but worse), Japan’s population is growing older and their inflation has all but disappeared, So maybe inflation is muted when a population grows older.

It is also possible though, that we should consider lower oil prices. Even with a 44.5 percent plunge, oil’s impact on lower gas prices has not had the impact on consumer spending that retailers expected. So there too, inflation is not where it should have been.

Another place to look is what has been called Congress’s insufficient stimulus spending. Or China, because the average price of imports has dropped by 9.4 percent during the past year. Or to a plain old self-fulfilling prophecy. Because we do not expect inflation, we are doing nothing to propel prices upward. And finally, returning to where we started, Fed Chair Janet Yellen says slack labor markets could explain the mystery of the missing inflation.

Our Bottom Line: The Fed’s Rate Hike

A two percent annual increase in inflation was close to the norm from 1992 to 2007. During those 15 years, the price of a 16 oz. bag of potato chips went up from $2.84 to $3.65, a pound of ground beef, from $1.91 to $2.70 and American cheese, $3.01 to $3.91. Rather accustomed to the two percent increase, many of us were convinced that the Fed had finally figured out how to control inflation.

But not any longer. Because missing inflation remains a mystery, the Fed’s interest rate decisions are debatable.

I hated to conclude without sharing some inflation statistics. Below you can see core CPI (Consumer Price Index) and core PCE (preferred by the Fed, Personal Consumption Expenditures) through November 2015. “Core” means that food and energy have been excluded because their volatility could be make the inflation numbers misleading.