The Consumer Price Index (CPI) is the Federal government’s measurement of monthly and annual inflation at the retail level. The statistic is created by the Bureau of Labor Statistics using a “secret shopper” survey whereby firms throughout the country are surveyed on the prices of a market basket of goods and services. Much of the methodology is kept secret so that individual firms or industries cannot knowingly influence the inflation index number. Economic theory suggest that price stability is a good thing and that changes in prices should reflect supply and demand factors rather than government policies; however, over the past 100 years, the government has maintained a fairly inflationary policy, meaning that notwithstanding market conditions, prices generally rise over time.
The Bureau of Labor Statistics’ (BLS) projection of CPI for the month of February 2013 was released showing an increase of 0.7 percent in overall price levels for the month. This means that inflation is running at about 2.0 percent over the past 12 months. Even though CPI as a whole was quite muted, some products experienced significant inflation in February, with energy prices up 5.4 percent driven in part by a 9.1 percent increase in gasoline prices. In addition, medical care prices were up by 0.3 percent for the month and the cost of housing continued to rise at an annualized rate of about 2.3 percent. Other costs were down sharply, specifically the price of candy fell by 1.2 percent, appliances fell by 0.9 percent and candy prices were off by 1.2 percent for the month.
The continued low inflation numbers are the result of a very weak labor market which means that companies have been able to focus on productivity growth at the expense of labor costs. Unit labor costs were almost flat in 2012, and corporate profits rose from 12.1 percent to 12.4 percent suggesting that businesses have been able to maintain prices in the face of higher commodity costs by continuing to squeeze both hiring and wage growth. This is one reason for rising equity prices.
We have forecast higher prices for the past 4 years resulting from high levels of government debt and what we believe is an overly expansionary monetary policy. Fortunately we have been wrong about this; however, I think the reason that inflation has been slow is because the economy has been kept artificially weak by bad government policies, over-regulation, and an unwillingness to invest in future production. If this is the case, low inflation rates could rapidly turn if the economy were to grow only modestly faster. We continue to think that companies and individuals would be well placed to keep inflation in the back of their minds when making decisions with a medium-term (3 to 5 year) time horizon.