Photographer: Tim Boyle

U.S. Data Quirk May Hold Back Inflation in the Coming Months

Fed officials discussed potential distortion at July meeting

Federal Reserve policy makers hoping for a pick-up in inflation in the coming months may end up being frustrated by a quirk in the price data.

In eight of the last 10 years, the key inflation rate that the Fed focuses on in the short run has come in lower in the second half of the year than in the first when the numbers are initially reported.

“The average monthly gains tend to tail off as the year wears on,” said Lou Crandall, chief economist at Wrightson ICAP LLC in Jersey City, New Jersey.

Government figures due out on Thursday are expected to show that the personal consumption expenditures price index rose 0.1 percent in July, after being flat the previous month, according to the median forecast of economists surveyed by Bloomberg.

Excluding food and energy costs, the core rate that central bankers look to for clues on where inflation is headed is also projected to have risen by 0.1 percent, matching its June rise.

Economists blame something called residual seasonality for the tendency of core inflation to ebb in the latter half of the year. While government statisticians try to iron out any seasonal ups and downs in prices -- think summer auto discounts before the new model year -- it's not that easy to do on the first pass, making subsequent revisions necessary.

Fed officials discussed the issue at their July 25-26 policy-making meeting, noting the possibility that monthly inflation readings “might be depressed” as a result, according to the minutes of that gathering.

A string of sub-par inflation readings already has put policy makers on the spot and called into question their plans for a third interest rate increase this year.  



The PCE price index is projected by economists to have risen 1.4 percent in July from a year earlier. That's down from 2.2 percent in February and below the central bank's 2 percent goal. The core rate is also forecast to show a 1.4 percent year-on-year rise when the figures are reported on Thursday.

Fed Chair Janet Yellen has said that transitory factors such as cuts in cell-phone service prices have been at least partly to blame for the recent easing in inflation. She added, though, that the central bank would be prepared to alter its policy plan if the inflation undershoot proves to be persistent.

The residual seasonality of the PCE price data may make it difficult to discern what’s going on.

Number crunchers usually try to filter out the impact of such recurring anomalies by looking at year-over-year price changes, rather than month-to-month moves. But, as Yellen herself has pointed out, those annual readings will be biased downwards through the rest of this year by the cut in wireless costs and other one-off factors.

Economist Joel Prakken expects the Fed to look past the distortions and raise interest rates in December.

“The fundamentals suggest a gradual return to 2 percent inflation,” the senior managing director of St. Louis-based Macroeconomic Advisers said, pointing to a weakening dollar, rising oil prices and a tighter labor market.

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