Stop the pussyfooting, and raise rates

Inflation has risen a little in America. The latest numbers show that the core consumer price index (CPI) is currently rising at an annualised rate of 2.8%. Janet Yellen, the chair of the Federal Reserve, says this isn’t really worth talking about. It is, she says, not real inflation. It is just a matter of the data being a bit “noisy”, thanks, it seems, to one-off rises in hotel-room costs and airfares. The analysts at Capital Economics don’t buy this. It “seems odd”, they say, to characterise the rise in core inflation as being noisy when it is “being driven by strengthening price pressures in areas as diverse as rents, medical care, clothing and new vehicles”. The Fed, says Capital, “is being too complacent on inflation”.

Bill Bonner doesn’t buy it either. But in The Daily Reckoning, he notes that it is almost impossible for anyone in America to have full confidence in the official inflation numbers. According to the government, consumer prices are up 39% since 2000. But it’s really very hard to find “any significant price that is up so little”. Oil is up 314%. A dozen eggs is up 106%. College tuition is up 68%. Look at the Billion Prices Project, which monitors millions of products sold by online retailers, and the rate of consumer inflation in America is closer to 4% than 2% (3.91%). Not all of these price rises can be dismissed as noise indefinitely.

You might think this doesn’t matter. After all, 4% inflation isn’t that much more than 2% inflation. But it does. ‘Real’ GDP – the number we look at to see how the economy is growing – is nominal GDP minus inflation. So if you make the inflation number too low, you automatically overstate GDP growth. On the MoneyWeek cruise last week, this was something we discussed at length. According to James Ferguson, China has been understating inflation by 6%-7% a year for some time. That means it has been overstating GDP growth by the same amount. Even the figures out, and China isn’t actually growing at all, and hasn’t been for a few years. Apply the same to the US and you might see an economy that isn’t really growing (in fact, the latest revised data for the first quarter suggests it is shrinking), but which has the kind of inflation that requires a rate rise sooner rather than later.

But it isn’t just America that should, as Liam Halligan puts it in The Sunday Telegraph, “stop pussyfooting around”and get on with raising rates. The UK no longer needs “emergency measures” – as the recent rises in employment make clear. What it does require is a normalisation of rates “ahead of the curve”. The longer the Bank of England leaves raising rates in this cycle, the higher they will eventually have to go (to head off inflation) and the more pain our debt-soaked households will suffer. It is time to end the speculation and get on with the job.