Fed De-Emphasizing Total CPI, Official Says

Economists at the Federal Reserve Board have moved their focus away from the overall consumer price index as the service sector captured a greater share of the nation’s economy in the 1990s, a senior economist at the Federal Reserve Bank of New York says.

“Economists at the Federal Reserve don’t pay too much attention to the total CPI,” said Richard Peach, New York Fed assistant vice president.

The economist said the core CPI, which excludes volatile food and energy prices, has risen in prominence among policymakers because it concentrates more on service-sector areas.

Peach was interviewed by Reuters after addressing a conference at the Rockefeller Institute of Government.

“The basic research begun in 1990 on how we would model inflation,” Peach said, noting that “prior to that period, commodities were useful to the CPI.”

“As services have increased their weight in their percentage of the economy, commodities prices have dwindled in importance in explaining the aggregate inflation rate,” Peach said.

Peach said the shift in the ‘90s toward an increasingly service-oriented economy has reduced the importance of the broader, overall CPI figure as an gauge of inflation.

He told the Rockefeller Institute of Government that March-to-May data indicated “the rate of increases of prices of core services may be turning upward . . . for the first time in this business cycle.”

The service sector component of the core CPI has been edging higher from a 3.0% low earlier this year while the goods component is around 1%, according to the data.

Peach, who declined to comment on the Fed’s current monetary policy’s stance, also said that low food and energy prices were key factors contributing to the tame performance of the CPI in the second quarter.

Turning to the inflation-adjusted real federal funds rate, Peach said it was roughly at the same level than in early 1995, at the end of a brisk, yearlong tightening cycle that doubled its nominal rate.

However, the current real funds rate does not seem to have the effect of slowing the economy as it did in 1995.

“After slowing to below potential in 1995 in response to a tightening of monetary policy in 1994, growth accelerated in 1996, reaching 4%, year-over-year, in the first quarter of 1997,” Peach said.