Inflationistas vs. Deflationistas: What Does CPI and PPI Tell Us?

This article originally appeared in the Daily Capitalist.

Inflationistas are probably confounded by Friday's Consumer Price Index report that showed a decline of 0.2% in June. The report pins the decline, the first since June 2010, on falling energy costs. As a large component of CPI it:

declined 4.4 percent in June, the largest decline since December 2008. The gasoline index, which fell 2.0 percent in May, declined 6.8 percent in June. (Before seasonal adjustment, gasoline prices fell 5.8 percent in June.) Despite the recent declines, the gasoline index has increased 35.6 percent over the past 12 months. 

On the other hand, the deflationists are probably using the data to confirm their belief that we are in a deflation.

The data shows that "core" price inflation, all items less food and energy, was still +0.3%, and up 1.6% for the year. The broad CPI-U was up 3.4% for the year. Core was up 0.03% for the second month, the biggest back-to-back gain in two years.

Some key items:

[E]nergy dropped 4.4 percent, following a 1.0 percent decline. Gasoline fell 6.8 percent after decreasing 2.0 percent in May. Within the core new vehicles increased 0.6 percent, used cars and trucks jumped 1.6 percent, and apparel increased 1.4 percent in June. And owners' equivalent rent is no longer as soft as in recent months, rising 0.2 percent.

Food:  The food index rose 0.2 percent in June after rising 0.4 percent in each of the prior two months. The index for meats, poultry, fish, and eggs turned down in June, falling 0.4 percent after increasing more than one percent in each of the previous four months. The fruits and vegetables index declined for the third month in a row in June, falling 0.3 percent as the fresh vegetables index continued to decline. In contrast, other major grocery store food groups increased. The index for cereals and bakery products rose 0.6 percent in June, and the dairy and related products advanced 0.5 percent, as did the index for other food at home. The index for nonalcoholic beverages increased 0.3 percent as the coffee index continued to rise. The index for food at home has risen 4.7 percent over the last 12 months, with all the major groups increasing 3.2 percent or more. The index for food away from home rose 0.3 percent in June after rising 0.2 percent in May.

 

There are some things to take away from this report. Core is still trending upward, but oil seems to be declining and bringing CPI down. Oil is not based so much on market factors as it is by OPEC. Supply and demand has an impact on these prices, but as we all know, OPEC can influence prices by increasing or decreasing production. Thus when economist look at CPI they like to remove the impact of oil to see if they can get a better read on the data without the influence of OPEC.

I would not entirely agree with that. If demand was superfluous to OPEC, then prices wouldn't fluctuate as much as they have. As demand for oil grows, oil prices rise worldwide. But, I believe prices rise not only because of demand, but because of the impact of a devalued dollar. And we aren't the only country in the world that is devaluing their currency. So, I believe it is possible to look at oil much as any other commodity that impacts our cost of living, regardless of OPEC's impact. All I know right now is that demand is down worldwide because of falling industrial production, and prices have fallen. It shouldn't be excluded from CPI calculation and that is why CPI went down.

As my readers know, I believe "inflation" is an increase of money supply brought about by the Fed, and that price increases are an effect of inflation. To distinguish this from the common definition of "inflation," I will refer to price increases as "price inflation." The reason we are not seeing rapid price inflation is that money supply growth has been rather modest considering the Fed's attempts to pump the economy full of money and credit. Quantitative easing is an inefficient way to create price inflation, at least as compared to an expansion of money and credit by banks. And as we all know, banks aren't lending robustly these days.

But the Fed is indeed pumping money, and monetary inflation is the reason we aren't seeing deflation. True (Austrian) Money Supply (TMS2 - green line) exploded post-Crash until January, 2010, dropped like a rock until, late 2010, when it started growing again. See this chart from Michael Pollaro which I have amended with the dates of QE1 and QE2:

As you can see, the Fed has been pushing on a string, attempting to create price inflation and prevent "deflation." They think they have succeeded in the deflation part, but they are dissatisfied with their attempts at inflation.

The next monetary data report should show more growth in TMS2. QE1 kept TMS2 expanding for about 10 months after it stopped in March, 2009-- through January, 2010, when it collapsed again. I would expect the effect of QE2 to be shorter than QE1 because of the post-Crash chaos has been resolved to the extent that now positions are known and we are in a slow but steady debt liquidation process. This liquidation phase is much stronger than the Fed realizes and the resolution of malinvestment is going slowly, no thanks to them. This hampers the formation of new capital and discourages businesses from expanding as the economy remains in the doldrums. Thus more monetary steroids loses its efficacy as this process continues.

So, as an inflationista, why haven't we seen prices go crazy? Let me summarize my thoughts:

1. Inflation is a monetary phenomenon, and price inflation is a result of it.
2. Price inflation is caused by an expansion of the money supply.
3. There is no such thing as demand-pull price inflation, or that we cannot have price inflation because capacity utilization of factories is low.
4. In order for prices to really take off, money supply needs to take off.
5. We have had a roller coaster of monetary stimulus through QE, causing significant gyrations in money supply.
6. QE (helicoptering money into Wall Street) has a lesser impact on money supply than bank money and credit expansion. It works, it just doesn't have the multiplier bang for your buck.
7. Money supply growth has been historically lower as compared to prior inflations that expanded through bank credit (see 2001 on the chart above).
8. The monetary impact of QE2 is not done yet, but it will have a shorter impact on money supply than QE1.
9. CPI prices are increasing modestly. The producer price index (PPI) is showing much higher price increases and this is starting to squeeze wholesalers and retailers. They will attempt to raise prices.
10. A question arises as to whether or not price increases will be accepted by consumers since wage growth has been flat. I believe increases will be rejected by consumers who will further restrict consumption in response. Or, retailers will swallow the difference, see profits squeezed, and either way, the economy will be harmed from monetary expansion.
11. Ultimately the CPI will rise further, especially if the Fed does QE3, which I believe will happen. Flat-to-declining growth will put pressure on the Fed to act. A low CPI (or PCE) and stagnating employment will encourage the Fed to do QE3 to revive a moribund economy.
12. That will lead to continued stagnation.
13. The key to recovery will be the liquidation of malinvestment and its related debt. It is happening, but the process is slow and more money pumping will only slow it down further.
14. Stagflation.

Comments

[DOT]

Stag you say ?  Call me.  Get McBags to bring some video.

[Zero Govt]

What connection has Benny got with CPI ?

The CPI represents the power of retailers to raise or lower prices... the 'money' Benny prints neither reaches consumers nor retailers except in the form of loans which is usually a small component in their finances, especially so as most retailers have credit lines with wholesalers and are not dialed into Fed money

To look for Bennys fingerprints in the CPI is like looking for a needle in a heystack. Bennys focus on CPI is rediculous, it's an Index he has zero control over or influence on because he never talks to or has influence on retailers

The CPI is also an averaging Index. Like the average man, society, the nation State, it does not exist at any point. These are all fabrications, statistically or ideologically. The CPI represents averaging prices in many sectors with in turn each sector, for example cars, having many different components. For example despite volume cars dropping prices we are seeing a surge in luxury car sales (last dip at the well?) and prices hold up

So averaging each sector is 'unreal' and avergaing across many different sectors into 1 Index called CPI is about as good a handle on anything as asking Obumma to represent the views and interests of 260 million Americas (ie. a delusional nonsense)

The only thing the Fed determines is not the economy but the only vested interests the Fed talks to and deals with day-in, day-out: the bankrupt parasites of WS and DC. All else in the economy Benny makes no effort with and is flapping in the wind, whistling Dixie and simply window dressing his elitist job with 'national imperative' as a member crone of the monopolists at The Parasite Club

[Econophile]

He has everything to do with CPI. You conflate monetary inflation with supply and demand. True, it is an average of a lot of things, but so what, it tells us a lot about prices. I understand the flaws in CPI but it's a rough gauge of what people are seeing. Please see the excellent comment by Lazane, above. Thanks for the comment. J

[Lazane]

my costs for goods and services sold has doubled over the past 2 years, it does me not a bit of good to whine about it, maybe this is just the beginning, in step I have raised my prices and I am generating a significant amount of whining from my customers. i believe at some point even higher costs are coming and even more whining as well. 

[ouchtouch]

At what point does Ben realize that he needs to send the helicopter money directly to my bank account?

[Agent 440]

So easy credit doesn't inflate as easy as printing money because... printing money is essentially changing your loan after it's made, like 'hey, I've decided that the principle and interest are the same, but I'm changing the timeline...', but easy credit still requires someone to put themselves on the hook for a loan. Does the threat of inflation brake borrowing?

[Charles Wilson]

"Does the threat of inflation brake borrowing?"

No, but it does take out that dirty word that sounds like "Hoarding" to the Keynesians: SAVING!

CW