By S.T. Karnick, The Heartland Institute
The Consumer Price Index rose by 4.2 percent year-over-year in May, the Bureau of Labor statistics announced in its inflation report released on Wednesday. That is more than double the Federal Reserve’s goal of 2 percent annual increases in the price index.
The Producer Price Index (PPI) showed annual inflation at 6.5 percent.
Higher oil prices drove the price increases as the closing of the Strait of Hormuz reduced the global supply of petroleum. That effect was widely expected, and it will prove temporary once the newly announced peace deal with Iran unblocks the flow of oil from the Middle East and replenishes world supplies.
The inflation numbers arrived as the Federal Open Market Committee (FOMC) was preparing its interest rate decision for this Wednesday. The Federal Reserve (Fed) has been reluctant to reduce interest rates, which would stimulate the economy, while inflation is above target.
Some FOMC members have publicly called for a rate hike, which would reduce economic growth and possibly move the economy dangerously close to a recession.
As the government-created central bank responsible for keeping prices and employment stable, the Fed should always make sure to identify long-term trends and not get too worried or elated over monthly numbers. The worrying is for Wall Street, the press, and the public to do.
With that in mind, new Fed Chair Kevin Warsh has proposed paying more heed to trimmed-mean averages: an inflation measure that strips out items with more-volatile prices as a way of identifying underlying monetary trends rather than faster-moving costs of consumer and producer baskets of purchases.
The Core CPI was 2.9 percent in May, well below the 4.2 percent for the CPI. Core PPI came in at 4.9 percent in May, the same as in April and a half of a percentage point below economists’ expectations. That is very high but nothing like the 6.5 percent the PPI showed.
The idea behind the use of trimmed-mean averages is to focus the Fed’s attention on the overall effects of its changes in the money supply. There is no perfect measure of the effects on the economy that the central bank creates through its policy choices in managing the money supply. That is a powerful argument for using an outside monetary standard (such as gold or a fixed basket of important commodities) or allowing the market to decide currency values exclusively.
Tying the money supply to something real such as gold would solve the inflation and economic boom-bust cycles. The same is true of allowing the market to create money.
The problem is that past gold-backed currency regimes have not always been able to prevent liquidity crunches, widespread bank failures, and the like. Those, however, can remain short-term problems that will correct fairly promptly if governments do not intervene. Unfortunately, governments seldom resist the temptation to wade in with supposed solutions that make things worse.
The Federal Reserve System, however, has regularly and often spectacularly failed to achieve its assigned objectives of establishing monetary stability, averting financial crises, and fostering a strong, market-based economy. Instead, it has created crises and continual instability, greatly to the detriment of the U.S. economy and the welfare of the American people. Things have gotten worse and worse since President Richard Nixon severed the last ties between the U.S. dollar and gold in 1971.
The current U.S. economic situation is exactly that: current. Individual and group fortunes rise and fall continually as circumstances change with the vagaries of chance, happenstance, bad government policies, and economic fads and enthusiasms. True prosperity depends on steady efficiency in the production of goods and services: long-term trends and hard realities. Warsh has the right idea for the nation’s central bank.
Source: Bureau of Labor Statistics
S.T. Karnick is a senior fellow at The Heartland Institute and executive editor of Heartland’s Health Care News.
