- The Washington Times - Saturday, April 9, 2005

Financial markets were rattled last month when the Bureau of Labor Statistics reported the Consumer Price Index for All Urban Consumers jumped by 0.4 percent in February (seasonally adjusted), following a comforting 0.1 percent rise in January. The core index for February, a measure of underlying inflation that excludes energy and food, also quickened its pace, rising by 0.3 percent following a 0.2 increase the previous month, and helped feed the frenzy.

The day before the consumer price release, the Federal Reserve’s Federal Open Market Committee (FOMC) lent credibility to the specter of rising prices, saying inflationary pressures have picked up, and again raised the federal funds rate a quarter point to 23/4 percent.

But it’s not clear consumer prices rose faster in February.

For a more complete picture, we need at a minimum to look at five additional price series — two from the Bureau of Labor Statistics (BLS), one reported by the Federal Reserve Bank of Cleveland and two reported by the Commerce Department’s Bureau of Economic Analysis.

The price series highlighted in monthly BLS news releases and featured in the media is the above-mentioned index for all urban consumers (CPI-U). But the BLS also reports an alternative price index for urban consumers, called the chained index (C-CPI-U). The chained series is the more advanced and conceptually preferred measure, but it is relatively new and goes back only to late 1999. It is not seasonally adjusted, so price changes are measured from the same month a year ago.

Nevertheless, the chained price index has an important advantage over its older and more popular sibling. Whereas the unchained CPI-U tracks the prices of a market basket of goods and services that does not vary from month to month, the chained index is more sophisticated in that it picks up monthly changes in consumer purchasing patterns. When consumers shop, they often substitute one good for another because of relative price changes. The chained index reflects such shifts. The unchained index does not and so overstates inflation.

BLS also estimates and reports a monthly core price measure, excluding energy and food prices, for the chained index.

Another way to measure core inflation is through a weighted median price index. Such an index, based on BLS price data, is calculated and reported monthly by the Federal Reserve Bank of Cleveland. Economists Michael Bryan (Assistant Vice President at the Cleveland Fed) and Stephen Cecchetti (an Ohio State University professor) found median prices are more highly correlated with past money growth and provide a better forecast for inflation than either the official CPI-U or its core series. This is a powerful finding that requires including the median CPI measure in economists’ inflation tool box.

The Bureau of Economic Analysis reports a monthly chain-type price index for domestic personal consumption expenditures (PCE), a high-quality measure that draws heavily on BLS consumer price data. But it is more comprehensive than the CPI in that it includes costs like medical care paid by government and employers. It uses different weights for items in the index, notably for housing, and allows for annual changes in purchasing patterns. The PCE index is also reported exclusive of energy and food prices.

Looking first at year-over-year price changes for all urban consumers, the chained CPI index shows that from February 2004 to February 2005, prices rose 2.6 percent compared to 3 percent for the more publicized unchained index. There was no acceleration in either measure from the year-over-year change a month earlier. For the six months ending in February, the pattern was similar. Chained prices increased an average 2.7 percent from the previous year, significantly less than the 3.1 percent rise in the unchained index.

For the chained CPI measure of core inflation, year-over-year prices rose 2 percent in February, slightly more than the 1.9 percent January rise. For the previous six months, year-over-year changes averaged slightly less than 2 percent, but showed a mildly rising pattern within the period.

For the Cleveland Fed’s median CPI, the month-to-month percent increase in core inflation slowed from 0.3 in January to 0.2 in February (seasonally adjusted), in contrast to the accelerated increase in the core unchained CPI. For the previous half year, the monthly percent increase for both series averaged 0.2. Year-over-year, the median CPI, up 2.4 percent in February, showed no change from January.

The PCE chained price index increased 0.3 percent in February (seasonally adjusted), slightly faster than 0.2 in January, reflecting sharp energy price rises. But core PCE prices showed the opposite pattern, with February rising 0.2 percent after a 0.3 percent rise in January. Year-over-year, the total PCE index in February rose slightly faster than a month earlier, while the rise in the core index held steady in February at 1.6 percent.

All told, the results of the alternative series for February are mixed. The selective evidence based on the well publicized CPI-U alone, that consumer prices rose faster in February, is wholly unconvincing. A fair conclusion based on broader evidence is that total and core consumer inflation were about unchanged.

It was pretty much the same for prior months: Consumer inflation was contained. But tomorrow may be another story.

Alfred Tella is former Georgetown University research professor of economics.

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