Why It Makes Sense to Look at Inflation Without the Hot Stuff

Popular measures of inflation, you may have heard, are pretty hot these days.

Last week we got the April reading for core personal-consumption expenditures in the U.S. (one of the gauges that the Fed likes to look at) and it shot up to its highest level since the early `90s. It’s quite a chart. 

Why It Makes Sense to Look at Inflation Without the Hot Stuff

Of course, a big reason for the spike is so-called base effects — the comparison to the depths of the crisis last year — but still, prices are up.

That being said, if you look at the Dallas Fed’s trimmed mean measure of the PCE, the story is far different, and last month barely stands out at all.

Why It Makes Sense to Look at Inflation Without the Hot Stuff

The basic idea of this (as explained here) is to lop off the extremes on both ends (the biggest rising categories and the biggest falling categories) to get a more wholistic picture of what’s going on with prices.

I wrote about this this morning and of course a common reaction is “well, if you cut off the categories where there’s inflation, of course there’s no inflation!” In general, people are skeptical of “ex-” measures. Ex-food and gas. Ex-extremes. People think you’re trying to pull a fast one. But there’s a good reason to do it. 

What is the point of looking at data at all on an aggregate basis? A big reason is that policymakers would like to know if there’s something going on in the economy that should cause them to pull back or ramp up monetary or fiscal support. If inflation is too hot, then theoretically that would be a reason for the Fed to tighten or to pull back on fiscal stimulus. But in order to make that call we need to get a better sense of whether the inflation is related to some monetary function or whether there’s some other idiosyncratic phenomenon going on.

The idiosyncratic thing going on right now, as everyone knows, is the reopening of the economy and the various bottlenecks that have emerged, particularly for products like chips -- an issue which is hitting car production and causing used-car prices to surge and so forth. This is real and it’s bad for consumers. But it’s hard to argue that this is a monetary phenomenon, or at least a phenomenon that has anything to do with the current stance of monetary or fiscal policy.

By trimming off the edges we can see that price increases are confined to a few categories and aren’t seeping throughout the economy in a broad way. The point isn’t to deny that inflation exists. The point is to see whether the inflation we’re seeing should be addressed through some policy change, or whether we’re just seeing the market at work. 

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