WASHINGTON — Economists are slashing U.S. inflation forecasts for 2015 as oil prices tumble. What’s not changing are predictions that the Federal Reserve will raise its benchmark interest rate anyway, probably around midyear.
“We’re still saying June with risks to September,” said Michael Gapen, the New York-based chief U.S. economist for Barclays. The Fed “can push rates higher in the middle of the year, even though visually that may look awkward if headline inflation is around zero.”
A stronger dollar, slowing global growth and cheaper oil are holding down costs for goods such as televisions and autos. Fed policymakers probably will look past that and see an improving labor market that will force employers to offer higher wages. Those costs soon will push up the price of such things as rent and restaurant meals, no matter what happens overseas, giving the central bank room to raise interest rates that have been stuck near zero for six years.
The personal consumption expenditure, or PCE, price index that’s the Fed’s preferred measure will be up 0.5 percent in the second quarter of 2015 from the same time this year, Barclays economists projected Dec. 19. That’s down from a previous forecast of 1.2 percent. The consumer-price index, a separate gauge, is projected to show a small decline in the 12 months through June.
The Fed’s goal is for PCE inflation to climb around 2 percent a year.
Core prices, which exclude food and fuel, will rise 1.7 percent over the same period, according to the Barclays analysis, down from a previously estimated 1.9 percent.
“Low pass-through into core from falling energy prices, and a gradually improving labor market leads to some wage and services inflation” in 2015 that will help assuage any concern the U.S. is catching a disinflation bug, said Gapen, a former Fed economist.
Too-low inflation hurts debtors by making it harder to pay off loans. Also, the longer that central banks undershoot their price targets, the more their ability to deliver stability will be questioned, undermining expectations further and putting even more downward pressure on prices.
Fed Chairwoman Janet Yellen and her colleagues probably will face a communications challenge as they pave the way for the central bank’s first interest-rate increase since 2006. Policymakers have said they believe the plunge in fuel prices will prove temporary, which will be more difficult to substantiate as inflation gauges keep sliding six months from now.
Energy “is going to be pushing down headline inflation and may even spill over to some extent to core inflation,” Yellen said Dec. 17 after the central bank’s policy meeting. “But at this point, although we indicated we’re monitoring inflation developments carefully, we see these developments as transitory.”
An improving economy and labor market will help “inflation to move gradually back toward its objective,” she said.
The Commerce Department reported last week that the core PCE price index climbed 1.4 in the year ended in November.
That’s probably enough, from central bankers’ perspective, to prompt a rate increase, said Omair Sharif, an economist with Newedge USA, a New York-based brokerage firm.
“It may take three years to get back to 2 percent, but as long as we’re not going back to 1 percent, they seem OK with it,” Sharif said.
Economists at Goldman Sachs are among those forecasting core inflation won’t show signs of moving toward the Fed’s goal next year as the upward pressure on prices from an improving economy will be more than offset by the impact of the drop in oil and the stronger dollar. An appreciating currency makes goods produced by the nation’s trading partners less expensive to U.S. shoppers.
The Goldman economists maintain that September will be the most likely month for the Fed to begin raising rates even as they now project the core PCE price index will rise 1.3 percent by next year’s second quarter, down from a prior estimate of 1.5 percent.
If it’s lower than 1.5 percent by June, as they predict, and wages show only a modest pickup, then the central bank probably will hold off, Jan Hatzius, Goldman’s New York-based chief economist, wrote in a Dec. 26 note. Should inflation undershoot even their below-consensus forecast, the Fed could wait until 2016, he said.
While Gapen acknowledges a rate liftoff could be delayed, the Fed has to make decisions based on where policymakers think the economy and inflation will be in 12 to 18 months, he said. And by June, the jobless rate already will be close to the 5.2 percent to 5.5 percent that Fed officials say is consistent with full employment, a sign that bigger pay increases are in store.
“If you can run the domestic economy hot enough, then you can have services inflation that offsets a weak global backdrop,” Gapen said. “What we would be looking for is just broad-based services inflation related to wages.”
