Is the Fed’s Inflation Outlook Finally Starting to Match Reality?

(Stan Honda/AFP/Getty Images)

Stan Honda/AFP/Getty Images

Some economists at the Federal Reserve believe that managing inflationary expectations can sometimes be just as important as managing inflation itself. Fortunately for them, both production price data and inflation expectations by businesses indicate that inflation is seeping back into the economy and may remain within the Fed’s targeted 2 percent range in the next 12 months. So in that sense, after about a year of soft inflation readings, the Fed is spot on.

According to the July survey of business inflation expectations carried out by Federal Reserve Bank of Atlanta, respondents expect prices to rise 1.9 percent over the next one year. These surveys have an indicative value of broad business expectations but they are nevertheless real-time indicators of economic conditions. Firms reported an increase of 1.8 percent in unit costs in the last one year. Business sentiment is showing signs of improvement as well. Profit margins have also improved slightly, with roughly 49 percent of respondents indicating their profit margins are above what they would be under “normal” economic conditions.

Another inflation indicator — the producer price index (PPI), which is inflation measured from the perspective of the seller — has shown qualitative improvement, though the increase in July was primarily due to increased prices for energy related goods.

The PPI for total final demand recovered 0.4 percent in June from a decline of 0.2 percent in May, against a June consensus of 0.3 percent, data published by Bureau of Labor Statistics showed. The index for final demand goods increased 0.5 percent in June compared with a 0.2 percent decrease in May. According to the BLS release, nearly 90 percent of the increase in prices was due to increase in prices for fuel and energy that climbed 2.1 percent in June. The index for final demand foods reflected continued softness in prices, as food prices declined 0.2 percent in June.