With No Inflation, Will the Fed Wait Longer to Start to Raise Interest Rates?

01/16/2015 5:50 pm EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

The Fed is clearly more worried about the possibility of deflation than inflation, and MoneyShow’s Jim Jubak thinks today’s numbers are likely to make the US central bank more reluctant to raise interest rates.

This morning’s inflation data from the Bureau of Labor Statistics, in my opinion, pushes the Federal Reserve’s initial interest rate increase later into 2015, with 2016 becoming increasingly possible.

The headline Consumer Price Index measure of inflation fell 0.4% in December after a 0.3% drop in November. The core CPI, which excludes changes in more volatile energy and food prices, came in unchanged for the month after a 0.1% increase in November. Economists surveyed by Briefing.com had projected a 0.1% increase in core CPI in December.

The December numbers bring the year over year headline inflation rate to 0.8%. That’s the smallest rate of increase since October 2009. The big contributor to keeping inflation this low has been energy prices. Gasoline prices fell 9.4% in December after a 6.6% decline in November.

Year over year core inflation is up only 1.6%. That’s down from the 1.7% year over year core inflation rate in November.

The Federal Reserve doesn’t use the core Consumer Price Index as its measure of inflation, preferring instead the Personal Consumption Expenditure index. The core CPI typically differs by about 0.5 percentage points from the Fed’s PCE index. To meet the Fed’s inflation target of 2% then, the core CPI needs to be near 2.5%. That means year over year core inflation in December is almost a full point below the Fed’s target.

With the Fed clearly more worried about the possibility of deflation than inflation—especially given inflation levels in Japan and the EuroZone that make deflation a real possibility in those economies—today’s numbers are likely to make the US central bank more reluctant to raise interest rates since that move would slow the economy and act to lower inflation.

The consensus in financial markets before today’s data was for an initial interest rate increase in June. I think that consensus is now likely to get pushed to later in the year.

News today on average hourly earnings points the Fed toward delay as well. Nominal average hourly wages—that is earnings before considering inflation—fell by 0.2% from November to December. Factoring in the effects of declining inflation, however, turns that decrease into a 0.1% increase in real average hourly earnings. Nothing there to send up any warning about wage inflation and plenty to worry a Fed that wants to see sustainable economic growth before it starts to raise interest rates.

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