Bloomberg News

Fed Ridiculed Over Prices People Pay Begets Lip Service to Beef

October 14, 2011

Oct. 14 (Bloomberg) -- Federal Reserve policy makers are giving commodity prices their due.

After Republican lawmakers and consumers criticized their focus on a measure of inflation that strips out food and gasoline costs, Fed officials increasingly are tying their assessment of prices to commodities. Following their last two meetings, policy makers said that a decline in energy costs was causing “moderated” inflation, even though their preferred gauge had climbed to the highest since May 2010. Earlier this year, they dismissed surging oil, calling inflation “subdued.”

Their increased emphasis on so-called headline, instead of core, inflation reflects the central bank’s attempt to appear more in tune with prices Americans pay, said Michael Feroli, chief U.S. economist at JPMorgan Chase & Co.

In March, attendees at a Queens Chamber of Commerce meeting asked William C. Dudley, president of the New York Fed, when he last set foot in a grocery store because they said he wasn’t sensitive enough to rising prices of foods, such as beef.

Policy makers were “out of touch with the public and politicians,” Feroli said in an interview from his New York office. “Given that the Fed is an increasingly visible public institution, it had to adjust its communications accordingly.”

The shift has a more “cynical angle” because it’s also provided support for the Fed’s expansion of monetary stimulus, said Stephen Stanley, chief economist at Pierpont Securities LLC in Stamford, Connecticut. After completing its $600 billion of bond purchases in June, the Fed pledged in August to keep its benchmark federal funds rate near record lows until 2013.

Rising Risks

Last month, it decided to replace $400 billion of short- term debt in its portfolio with longer-term securities in an effort to further reduce borrowing costs and counter rising risks of a recession.

At its Sept. 20-21 meeting, the policy-setting Federal Open Market Committee “agreed to note that inflation appeared to have moderated since earlier in the year as prices of energy and some commodities had declined,” according to the minutes, released Oct. 12 in Washington. The Fed’s preferred price index, which excludes food and fuel costs, rose 1.6 percent in August from a year earlier, up from 1 percent in March.

The communications change comes after the Fed’s November decision to embark on a second round of asset purchases sparked the harshest political backlash in three decades. Republican lawmakers, including House Speaker John Boehner of Ohio, said the program risked accelerating prices; they also sent Fed Chairman Ben S. Bernanke a letter last month urging the central bank to avoid further monetary easing.

Breakeven Rate

The program led to surging inflation expectations and questions about the central bank’s credibility. Expectations for annual consumer-price gains reached 2.47 percentage points in April, the highest in almost three years as measured by the breakeven rate for five-year Treasury Inflation Protected Securities. The measure since has fallen to 1.55 points. The central bank aims for a long-run inflation goal of 1.7 percent to 2 percent, according to its most recent economic projections in June.

There’s a “disconnect” between the Fed’s recent comments on oil and its historical view that core inflation, stripped of volatile energy and food costs, is the best measure of price stability, said John Silvia, chief economist at Wells Fargo Securities LLC in Charlotte, North Carolina.

“The Fed’s communications are trying to talk down people’s inflation expectations and reinforce that talk by pointing to the lower commodity prices,” Silvia said. “For a lot of professional people like me, it’s like ‘Okay, fine, you want to talk about that, but that’s not what you had to say two years ago when gas prices were rising.’”

‘Small Part’

Silvia said he’s still focusing on core inflation because “that’s what the Fed said the target was,” and commodities play “a small part” in the ultimate price of goods and services.

Most Fed officials favor giving the public additional information on the central bank’s goals and how they influence decisions, according to the minutes from last month’s meeting. At the August session, Bernanke and colleagues discussed adopting specific levels of inflation and unemployment as conditions for keeping interest rates near zero.

Federal Reserve Bank of Philadelphia President Charles Plosser, who voted against the last two decisions to expand record stimulus, said the Fed should have “responsibility” for headline, not core, inflation and there are “mixed views” on how well core predicts changes in overall prices.

“I think it’s useful, but not all that useful,” Plosser told reporters after an Oct. 12 speech in Philadelphia. “For me, what we care about is the headline number.” He has called for the Fed to adopt an explicit numerical target for inflation.

‘Trending Downward’

In January, the FOMC said inflation was “trending downward.” Core fell to 0.9 percent in December from 1 percent in November. Including food and energy, the rate had climbed to 1.4 percent from 1.2 percent in the same period. The headline inflation figure has continued to rise, reaching 2.9 percent in August, the highest since October 2008.

Bernanke said in Oct. 4 Congressional testimony that price increases “have begun to moderate” after a jump in oil earlier this year resulted in higher costs for gasoline and food.

Crude oil for November delivery settled yesterday at $84.23 a barrel on the New York Mercantile Exchange, down from its 2011 peak of $113.93 on April 29. Pump prices have dropped to $3.426 a gallon from this year’s high of $3.985 in May, according to Heathrow, Florida-based AAA, the largest U.S. motoring organization.

Smallest Gain

Retail prices for meat and fish rose 0.5 percent during the three months through August, the smallest three-month gain since the end of 2009, according to the Labor Department’s index of consumer prices.

“It’s not clear what in the inflation picture has moderated other than gasoline prices themselves,” said Dean Maki, chief U.S. economist at Barclays Capital in New York. “This is a departure for the Fed to be focusing on the very high-frequency headline inflation numbers as their measure of inflation.”

The criticism from Republicans has continued, with Senators Jim DeMint of South Carolina and Mike Lee of Utah saying Oct. 4 that the central bank’s record monetary stimulus has spun inflation and the money supply out of control.

“There’s a little bit of playing Whac-A-Mole,” Pierpont’s Stanley said. “When commodity prices were shooting through the moon, Bernanke and the Fed were pounding the table saying ‘No, no, don’t pay attention to that; we’re looking at underlying inflation.’ And now all of a sudden, commodity prices are going the other way and it’s ‘Oh, look, inflation is moderating.’”

--With assistance from Carlos Torres and Scott Lanman in Washington. Editors: Melinda Grenier, Christopher Wellisz

To contact the reporter on this story: Caroline Salas Gage in New York at

To contact the editor responsible for this story: Chris Wellisz at

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