Inflation, Or The Lack Of It

Energy pushed up inflation in June. Excluding food and energy, pressures on prices remain very subdued, with some measure falling into negative territory. Some acceleration could be emerging at very early stage of processing, but as long as demand does not bounce back markedly, the lack of inflation will remain the main concern for Fed members

In June, consumer price indices accelerated thanks to an increase in energy costs. On a year-on-year basis, import prices were up 0.2%, producer prices (for finished goods) by 2.5% and consumer prices by 1.8%. Excluding food and energy, the inflation rates are even more subdued, as import prices kept on falling (-0.5% y/y in June), with finished goods PPI up a limited 1.6%, the same rate as the core CPI.

Inflation has been markedly slowing down as lately, a development that is even more worrying when going deeper into details. An augmented core measure of consumer inflation, which excludes the most volatile items (following the Bank of Canada’s preferred measure), increased by less than 1% a year for the fourth month in a row in June, with the 3-month annualised pace of growth in negative territory (at -0.4%).

At earlier stage of processing, some price pressures seem to be emerging. The very first signs of acceleration can be seen in data for producer prices, as the year-on-year pace of decline in core material good prices markedly eased (at -2.2% in June versus -6.3% in May and -5% in Q1 2013), while the core PPI for intermediate goods bounced back in positive territory, at +0.9% y/y (after an average -0.2% in April and May).

However, as long as demand remains depressed, inflation does not have large room for rebound, and increasing costs could have damaging effects on firms’ profitability and/or employment, as the business sector could try and increase productivity (in cutting payrolls) to preserve profit margins.

This risk is, however, limited. First, even if GDP growth remains too slow to close the output gap, it is in positive territory. Second, the business sector benefits from a very healthy financial situation. As a share of GDP, corporate profits are close to an all-time high. Still, a prolonged and too marked disinflationary process is part of what the Fed tries to avoid, and as stressed recently, Fed members are more on more worried about the current trend. This is consistent, together with somewhat disappointing activity data as lately, to tapering being postponed until the very end of the year.

BY Alexandra ESTIOT

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