Falling Gasoline Prices And U.S. Inflation

A big drop in gasoline prices brought the US inflation rate for October, as measured by year-on-year change in the consumer price index, to just 0.95 percent, its lowest level in four years. The y-o-y inflation rate for the core CPI, which excludes food and energy, was 1.69 percent. As the following chart shows, trends for both the all-items and core CPI have turned downward over the past two years. Year-on-year data give a good picture of medium-term trends, but it is also worth looking at monthly data, which tell us what is happening right now. The latest monthly data reveal not just a slowing of inflation, but an actual fall in the price level for October. As the next chart shows, the seasonally adjusted CPI decreased at a .71 percent annual rate in October. Without seasonal adjustment, the CPI fell even more sharply—an annual rate of decrease of 3.05 percent. The unusually large difference between the SA and NSA numbers was largely due to the price of gasoline, which alone has a weight of about 5 percent in the CPI. The price of gasoline usually decreases by about 2 percent in October, but this year the change was -4.9 percent. That was enough to pull the whole unadjusted index down sharply.

Any way you look at it, there is not much inflation in the U.S. economy at present, nor is much expected. The Cleveland Fed’s estimates of inflation expectations, based on the prices of Treasury Inflation-Protected Securities (TIPS), stands at just 1.6 percent for a 5-year time horizon and 1.7 percent for a 10-year horizon. Both measures have fallen slightly over the past two months.

On the other hand, despite the drop in the October CPI, there doesn’t seem to be much risk of deflation either. The Atlanta Fed uses TIPS prices to calculate indexes of deflation probabilities over various time horizons. The latest readings suggest that there is essentially no chance that the CPI for 2016 through 2018 will be lower than it is at present. As recently as two years ago, the estimated probability of deflation was more than 15 percent, despite the fact that the actual inflation rate was higher then than it is now.

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