Inflation or Lack Thereof: Depends on the Measurement

Last week we highlighted the firming of inflation as measured by the Consumer Price Index. Adjusted for food and energy, CPI rose 1.8% year-over-year in April, the fastest pace since October of last year. This morning, however, we see that inflation, as measured by the Personal Consumption Expenditure index, came in at only 1.2% year-over-year in April. This metric, which is the Federal Reserve’s preferred inflation gauge, has been running quite low for months, and remains well below the Fed’s inflation target of 2%. Why the large difference? According to the economics team at JP Morgan, the difference lies in the underlying weightings and measurements. CPI has a much larger weight to rental and housing costs, both of which have been rising appreciably faster than the overall level of prices. Medical costs are also measured differently, with CPI using out-of-pocket costs and PCE using total medical costs, including payments through government programs and employer costs. The divergence will likely allow the Fed ample time to refrain from raising the Fed Funds rate, and until we see PCE move higher, it is unlikely that rates will move appreciably higher either.  

Source: Bloomberg, JP Morgan