BREAKING UNIONS MATTERS, OIL BLIPS DON'T:

Inflated Worries (LAURENCE H. MEYER, 3/24/11, NY Times)

There are two fundamental measures of inflation: overall (or “headline”) inflation and “core” inflation, which excludes food and energy prices because they are very volatile and mostly transitory and as a result don’t necessarily reflect underlying inflation trends. A central objective of the Fed’s monetary policy is price stability, defined as a low, steady rate of overall inflation. So are rising food and gas prices a sign that the Fed is falling down on the job?

The answer is no. There is very little that the Fed can do to control today’s inflation, whether core or headline. What the Fed does influence is inflation a year or two down the road, which is why it needs to look to the future, not overreact to the present.

The most significant question for the Fed, then, is whether overall or core inflation right now is a more reliable gauge of where headline inflation will be next year. And the data unequivocally tell us that core inflation better predicts overall inflation tomorrow.

Given that core inflation is close to 1 percent, overall inflation next year will likely also end up at about 1 percent, well below the Fed’s almost explicit objective of 2 percent.

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