February 2013 Index

March 21, 2013

The Inflation Targeting Balancing Act

According to the U.S. Federal Reserve Bank’s web site, the objectives of its monetary policies are to “maintain long run growth of the monetary and credit aggregates commensurate with the economy’s long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.”

The Chairman of the Fed has suggested in recent months that the Bank intends to maintain its stimulative quantitative easing (QE) asset purchasing programs in place until the economy demonstrates sufficient strength to generate enough job growth to get unemployment down to 6.5 percent, and can generate inflation of about 2.5 percent.

As we discussed last week, the U.S. economy has made some progress on the employment front as the official unemployment rate has been declining; it now stands at 7.7 percent — even if the official numbers leave a lot to be desired. Recent progress aside, “maximum” employment does not look likely any time soon.

With respect to stable prices — another area where the official numbers leave a lot to be desired — the numbers are also showing a pickup. The February 2013 data released last week said that consumer prices rose 2.0 percent over the previous 12 months, which is up from January’s 1.7 percent figure.

Inflation of 2 percent is still well below the Fed’s desired 2.5 percent target, and is also well below the 100-year average of about 3.2 percent. We believe this gives the Fed a lot more room to keep their foot on the QE gas pedal.

If the Fed is Successful in Driving the Official, Manipulated Data Higher, What Will it Do to the Prices of Basic Needs?

Keep in mind that the calculation of consumer prices in the CPI includes many periodic adjustments to weights, seasonal smoothing calculations, and many changes to what is in the basket of goods used to calculate CPI. In most cases, the effect of these manipulations tends to lower the official rate of inflation. Many of these manipulations of how the statistics are calculated have taken place since the 1980s… and you can see in the St. Louis Fed’s chart above that the official inflation number has gotten less volatile in the past few decades.

While the government’s latest inflation data said prices were up 2.0 percent in the past 12 months, the prices of a fixed basket of certain basic, essential needs (representing food, clothing, shelter, and energy) as measured by our Guild Basic Needs IndexTM were up 6.9 percent over the same 12 month period.

One Year isn’t a Trend, So Let’s Take a Look at a Longer Period

If the economy reverts back to the 100-year average inflation rate of about 3.2 percent, what does that mean? At 3.2 percent inflation, prices double about every 20 years. We have not gathered 100 years of data for the cost of basic, essential needs, but since the start of 2000, the prices of certain basic, essential needs show an average annual increase in price of about 4.8 percent. At that pace, the cost of things people need and consume every day are on pace to double every 15 years.

The Fed had Better Be Careful What it Wishes For

Another thing a higher inflation rate means is more stress on the U.S. Treasury. While the Fed wants to engineer higher prices in the economy, there is definitely a point that is too high. Can they engineer that too? The Treasury doesn’t want them to be too high, as the government has a lot of debt outstanding and a lot of future bills that are calculated based on CPI as the cost-of-living adjustment mechanism. It is a delicate balance, but nonetheless, we expect two things to continue: 1) We expect QE to continue, and 2) we expect the official inflation rate to continue to understate the reality of what Americans experience at the store.

March 7, 2013

How Much of What’s in Your Wallet Goes to Food?

As our regular readers know, we frequently discuss the impact that the rising prices of basic, essential needs (food, clothing, shelter, and energy used for cooking and heating) has on the standard of living in the U.S. in our Guild Basic Needs IndexTM (GBNI) section. This week, we want to highlight an interesting graphic in this past week’s Bloomberg BusinessWeek about your grocery bill.

The Bloomberg piece shines a light on the average American household’s falling expenditures for food over the past 29 years. One could imagine a number of plausible explanations of the data. Are Americans’ incomes increasing? Are food prices declining? Some might even take it to mean that Americans are eating less… although there’s plenty of optical evidence that suggests otherwise.

Americans Are Definitely Not Buying Less Food

We can see that the chart (see below) is saying is that American households’ expenditures for food have declined as a percentage of their post-tax income. Americans have been spending less of their after-tax money. Since 1984, the amount of a household’s after-tax income spent on food fell from 16.8 to 11.2 percent. By comparison, the proportion of a French family’s income spent on food is twice as high, and in India, the percentage is four times as high. (We suspect the disparity in percentage would be even higher if the average French and Indian were buying as much food as a typical American does.)

America’s Shrinking Grocery Bill

In 1984, the average U.S. household spent 16.8 percent of its annual post-tax income on food. By 2011, Americans spent only 11.2 percent. The U.S. devotes less of its income to food than any other country—half as much as households in France and one-fourth of those in India..

Please go to: http://www.businessweek.com/articles/2013-02-28/americas-shrinking-grocery-bill

We find it interesting that the chart shows a pretty high consistency in the proportional makeup of the food basket’s components over the decades. But even more interesting is that it looks like the percentages across the board may have bottomed in recent years. Is this latest uptick in percentage because of rising food inflation? Or is it because of a decline in post-tax income? It could be both. There are plenty of data showing the stagnation of household income. It is also safe to assume that taxes are going higher. With stagnant incomes and rising taxes, it could be that the recent percentage increase in the above chart becomes the new trend.

It is not Just Food, Other Basic Needs Could Take More of the Wallet

We see rising costs of basic, essential needs as a long-term trend. For the period from January 1, 2000 to January 31, 2013, the cost of basic needs in America, as measured by our GBNI, is up over 82 percent. The basket of goods contained in the Consumer Price Index (CPI) is only up about 36.8 percent. This means a shrinking percentage of income is left for saving, investing, and of course discretionary spending.