LOW INFLATION, Probably Not Forever


The United States has enjoyed an unusually long period of very low inflation.
As the graph below indicates, U.S. Core Inflation as measured by the U.S. Bureau of Labor Statistics has been below three percent for over twenty years. That means there are many people who have only known an era of stable prices.

CPI as of May 2017. PCE as of April 2017. Source: Bureau of Labor Statistics, Haver Analytics

There are exceptions.  Higher education has been notorious for its persistently aggressive price increases.  This is consistent with the data which has shown little or no inflation in the prices of many consumer goods and higher inflation in prices paid for services.

Such a long period of mild inflation can invite complacency and a perception that inflation and interest rates will stay lower for longer.  Low energy prices add to the perception that inflation is at bay because some of the most famous periods of rampant inflation were triggered by a series of oil price shocks.  Inflation pressures can come from other sources and it is important to remember that not all periods of inflation look the same.

In the current environment, we are seeing wage pressures increase as the labor market continues to tighten.  The U. S. unemployment rate is hovering around 4.5 percent.  Government labor statistics have noted a decrease in the proportion of the labor force working part time from its peak in 2010-2011.  This firming labor market has translated into increases in average hourly wages across a wider spectrum of wage categories that we believe are likely to continue.

The dollar strength against other major currencies peaked earlier in the year and as the dollar weakens, imported goods become more expensive.  This contributes to inflation in subtle ways, not just in the prices of imported finished goods, but in the pass-through effect of component parts included in many manufactured goods.

Another potential source of inflationary pressures is the decline in efforts at further expansion of international trade.  There are the beginnings of the imposition of barriers to the flow of goods across borders. The increased tariffs on Canadian lumber imports earlier this year is a good example of this phenomenon. Sustained efforts at protectionism and potential retaliation among trading partners could contribute to price increases and additional inflationary pressure.

It is easy to assume that things will continue as they are.  However, some of the factors that have contributed to this enviable period of low inflation are changing.  Since inflation can increase for a number of reasons, our response to signs that inflation is heating up may include a wide range of investment tools.