Friday, June 15, 2007

Floyd Norris: Notions on High & Low Finance

Wall Street is relieved that inflation is under control. Consumers know it isn’t.

Share prices are soaring today, on the good news that the core consumer price index was up just 0.1 percent in May. Economists are ignoring the fact that the overall C.P.I was up 0.7 percent.

The core figure leaves out food and energy, and since that is the rate the Federal Reserve watches, traders think there is little risk of a Fed move to tighten. The theory is that food and energy numbers can be volatile and thus misleading.

The trouble with only watching the core rate is that real people eat and also use energy. And changes in those prices are important over long periods of time.

Over the past three months, the total consumer price index has risen at a high annual rate of 7 percent, while the core rate is advancing at the small rate of 1.6 percent.

To be sure, three months is a short period. But four years is not. Over that period, the overall CPI is up at an annual rate of 3.15 percent, a full percentage point more than the core rate. Food is up at a 3.1 percent rate, a 13 year high for that measure. And energy costs have risen at a 12.9 percent annual rate.

The last four-year period that saw consumer prices rise as much as they did over the last 48 months was in the period ending in August 1994. If Wall Street paid attention to the real inflation figure, the moaning would be intense.

The University of Michigan survey of inflation expectations also came out today. The median forecast is for a 3.5 percent inflation rate over the next year. The average forecast is even higher, at 4.1 percent. “Clearly,” said Robert Barbera, the chief economist of ITG, “people who are polled by the University of Michigan think they have to buy food and gasoline.”

One more interesting piece of information: The U.S. Treasury Department survey of international transactions reports that China was a net seller of $941 million worth of Treasury bonds and notes in April, after buying $13.6 billion worth in the first three months of the year. April is a funny month, given that tax receipts reduce the government’s need to borrow, but in April 2006 China bought $4.15 billion in Treasuries.

One month does not make a trend, but if China is getting hesitant about adding to its Treasury portfolio, interest rates could be headed up even if the Fed does want to ignore the actual inflation rate.