South-Western College Publishing - Economics  
Inflation Spikes Above Fed Target
Topic Employment, Unemployment, and Inflation
Key Words Inflation, Consumer Prices and Core Inflation Rate
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Reference ID: A157929015

News Story After sharp drops in September and October, and no change in November, the inflation rate for the United States economy took a sharp increase in December. The December rate of 0.5 percent was the biggest increase in the Consumer Price Index since the 0.6 percent rise in April.

The latest increase was due mostly to a spike in fuel costs. After falling from August until early November, fuel prices rose for most of December and pushed other prices up as well. This phenomenon is what economist call cost-push inflation. As business firms dependent on fuel for delivery and production of their goods and services experience increase fuel costs they pass the cost on to the consumer.

"All this talk about the Fed lowering rates is looking increasingly unlikely," said Bernard Baumohl, managing director of the Economic Outlook Group. In fact Mr. Baumohl went on to say that, "the possibility is growing that the Fed will have to raise rates in the second half of this year." Like many economists, and the Federal Reserve, Mr. Baumohl focuses on the so-called core inflation rate to make his prediction.

The core inflation rate measures the change in average consumer prices after excluding the volatile areas of food and energy. This measure allows analysts to see the broad underlying trend in consumer prices and is a better indicator of monetary policy action. The Federal Reserve targets a core rate of 1 to 2 percent as acceptable. After that they are likely to use monetary policy to lower rates. The core rate rose 0.2 percent in December and brought the annual rate to 2.6 percent. This is well above the rate that Ben S. Bernanke, the Fed's chairman describe as acceptable.

Discussion Questions:
1. Define cost-push inflation.
2. Discuss the notion of the core rate of inflation.
Multiple Choice/True False Questions:
1. Cost push inflation is a result of increased aggregate demand.
  1. True
  2. False
2. The core inflation rate used by the Fed excludes apparel and tobacco price movements in the economy.
  1. True
  2. False
Source Louis Uchitelle, "Economy Seems to Be Holding Its Own, but Inflation Risk Persists" The New York Times Online, January 19, 2007.
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