The economy needs inflation. This notion is hard to explain to many people that higher prices are better than low prices when it comes to every days goods. Still, the problems of lower and lower prices gets easier to see when you start applying it to salaries, home prices, and investments. Unfortunately for the Federal Reserve, the current inflationary trends are still running slower than what is needed to justify many more interest rate hikes.
The late summer economic reports have so far delivered sub-par inflationary pressures in the Producer Price Index (PPI) and in the Consumer Price Index (CPI). And somehow, pools of consumers are expecting that inflation will somehow for the first time in years tick back above the Federal Reserve’s stated inflation target range of 2.0% to 2.5%.
The Federal Reserve Bank of New York has released fresh data showing that consumer inflation expectations have remained at low levels in its Survey of Consumer Expectations. According to that report, the one-year measure held steady at 2.54%. The median three-years-ahead inflation expectation slid down to 2.71% in July from 2.78% in the prior month.
What matters here is that both one-year and three-year estimates have remained near lows recorded since the New York survey started in 2013. Still, perhaps the ultimate issue to consider here is that neither CPI nor PPI have ever really managed to have 2.5% or 3.0% readings in years. And it means that many consumers are expecting inflation to rise far more than we have seen.
On the monthly report for July released last week, PPI was down an unexpected 0.1% in July’s month-over-month reading versus a 0.1% gain in June. Economists were calling for a 0.1% gain. Even the core PPI on the monthly reading, which measures producer prices outside of the volatile food and energy prices, managed to turn in a drop of 0.1% reading in July.
Then the CPI was released on August 11 showed just a 0.1% gain on the monthly headline and core readings. And the year-over-year consumer inflation reading showed gains of 1.7% on the headline and core inflation readings. All four measures were under expectations.
One nagging issue behind the difference between the consumer inflation expectations and the reality is that educated consumers had been taught for years that inflation expectations should average around 3%. That has not been the case for quite some time now, but that may be skewing why consumers are thinking inflation will ultimately pick back up.
Below were some of the other points measured by the New York Fed for its July 2017 survey of consumers:
- Median one-year ahead home price change expectations declined from 3.5% in June to 3.2%.
- Median one-year ahead expected gasoline price change declined for the third consecutive month, moving from 4.6% in April down to 3.8% in June and then down to 3.0% in July.
- Expectations for changes in the cost of medical care, rent and food prices were largely stable.
- Median one-year ahead expected earnings growth expectations increased by 0.1 percentage point in July to 2.6%.
- Median expected household income growth increased 0.3 percentage points in July to 3.0%.
- Median household spending growth expectations decreased from 3.3% in June to 2.8%.
The New York Fed’s survey also showed expectations for stocks and for the trend of government debt ahead. The mean perceived probability that U.S. stock prices will be higher 12 months from now declined by 1.9 percentage points in July to 41.7%, and that was its lowest reading since November 2016. Median year-ahead expected growth in government debt remained steady at 4.9%.
As far as how this monthly survey is compiled, the New York Fed uses a nationally representative internet-based survey of a rotating panel of approximately 1,200 household heads.
An interactive chart from the FRED database shows how real inflation in the last decade has never really come close to a 3.0% historical reading. Since you have to go back to before 1995 to see core inflation consistently above 3%, that means that close to half of the median age of the workforce has never really dealt with 3% core inflation.