Chicago Fed: Confidence in the Fed Will Prevent Price Inflation

The latest convoluted argument, that the recent increase in commodity prices will not cause an increase in consumer prices, comes from the Chicago Fed.

Rising commodity prices don’t push up underlying rates of inflation much and don’t require a policy reaction from the Federal Reserve, a new paper co-authored by Charles Evans, the president of the Chicago Fed says, according to WSJ. The report was put out by Evans along with Jonas Fisher, the bank’s director of economic research.

They write:

Clearly, higher prices of food and energy end up in the broadest measures of consumer price inflation, such as the Consumer Price Index. [But over the last generation] sharp increases and decreases in commodity prices have had little, if any, impact on core inflation, the measure that excludes food and energy prices.

Got that? Translation: Just because food and gas go up in price, your iPad may not.

The period they choose to base there analysis is also interesting. They choose to start their empirical evaluate beginning with the mid-1980's, the period right after the great inflation when commodity prices and everything else were skyrocketing.

WSJ reports:

Since the mid-1980s “the reactions of both core inflation and the federal funds rate (the monetary policy instrument) to shocks in oil and other commodity prices have been extremely modest,” they wrote.

I'm sure their selective empirical nonsense wouldn't hold if they chose the 1970's as their period of "study".

The early Volcker years (which started in late-1979) brought about a period of commodity deflation (which started with the collapse of the silver market in March 1980)that pushed prices down in the commodity markets and muted price increases at the consumer level. This was followed by huge gains in productivity because of the personal computer and China freeing up its markets, resulting in access to cheap labor from that country.

None of these specific factors, apply to the current situation. The country is coming out of a strong demand to hold cash (which means they are more aggressively using their money to bid up prices), the growth in personal productivity has slowed (perhaps in a way being transferred to smart-phones and iPads) and China is maturing. In short, there are no major factors that will suffocate any price advances at the consumer level this time. The study by Evans and Fisher is a very crude empirical study taking a look at a very limited period, and failing to take into consideration the specific factors of that period that make it unique. It is poor methodology, resulting in a poor result.

But most remarkable is their conclusion. WSJ again:

The paper argues one of the key reasons commodity prices don’t cause broader mischief is due to the fact the public has greater confidence the Fed will act appropriately. “Assuming there is a generally high degree of central bank credibility, there is no reason for such expectations to develop–in fact, in the post-Volcker period, there have been no signs that they typically do,” the paper said.

The public can think that Ben Bernanke is a bearded Mother Theresa, and have unlimited confidence in him, but if he prints money like Robert Mugabe, people will start to spend that money and bid up prices.

Add another paper to the pile of totally unimpressive papers put out by the Fed trying to justify money printing by the Fed, and denying the price inflationary impact of such printing.