Inflation Stages Return as Economy Strengthens

Inflation is back.

The Bureau of Labor Statistics reported Wednesday that its most closely watched measure of inflation rose 0.5% in March. And in the first three months of the year, the consumer price index surged at an annual rate of 5.1%, compared with the 1.9% rise for all of last year.

Although most of the attention has been captured by the run-up in gasoline prices -- they shot up 5.5% last month after climbing 2.5% in February and 8.5% in January -- the bureau’s data provide evidence that a growing number of goods and services cost more.

Consumers have noticed.

“Prices have been going up steadily,” said Joan Ritchie as she placed milk and eggs in her grocery cart at the Ralphs supermarket in Seal Beach.

Indeed, over the last six months, food has become steadily more expensive, according to the government data. During that period, the year-over-year rise in seasonally adjusted prices for groceries has averaged more than 3.9%, the biggest sustained increase in eight years. That was about double the increase in prices for all consumer goods and services during the same period.

The bureau said the core inflation rate, which excludes energy and food costs, jumped 0.4% in March and was running at a 2.9% annual rate through the first three months of this year.

Just a year ago, the Federal Reserve was struggling with the question of whether the nation was headed into a deflationary cycle that would stifle corporate profits and hope of an economic recovery. Instead, inflation, which at moderate levels acts as the grease to make the economy run smoothly, is evident from the gas pump to the milk counter.

Companies are finding that, for the first time in a long time, they can jack up prices. Consumer products giant Procter & Gamble Co., for example, recently said it would raise prices for Charmin bathroom tissue by 5% and some coffee products by 4%.

“It’s been a long time in coming, but it appears that pricing power has begun to return,” said Joel Naroff, head of Naroff Economic Advisors in Holland, Pa.

Inflation, as measured by the government, has mostly been in decline for the last 20 years, after reaching double-digit annual rates in the late 1970s and early 1980s. The consumer price index rose 1.6% in 2002, for example, compared with 5.4% in 1990 and 13.5% in 1980.

Most economists don’t believe that consumer prices overall will rise much beyond an annualized rate of around 2% to 3% in the next few years. And many experts believe that some pickup in prices actually could help the economy by making companies more profitable, giving them the wherewithal to hire and to reinvest in their businesses.

In fact, although inflation’s return might cause consumers angst, rising prices are helping pull dairy farmer Ray Souza of Turlock out of a prolonged slump. Souza, a third-generation dairyman, figures that after 14 consecutive money-losing months, he could be in the black again by next week.

Milk price increases “come at a time when we really need it,” said Souza, who wants to build more settling ponds and waste-control facilities on his 300-acre, 600-cow farm.

Souza is also getting a hand from the state Department of Agriculture, which uses the value of futures contracts for cheddar cheese, butter and powdered milk on the Chicago Mercantile Exchange to set minimum milk prices in California.

This month, the minimum price retailers can charge for a gallon of whole milk in Southern California jumped 20 cents to $2.35. And that will go up by at least another 47 cents May 1.

Milk is one of a number of basic food items whose price is on the upswing. The reasons are varied. A worldwide shortage of soybeans, for example, pushed the crop above $10 a bushel in March, the highest in nearly three decades. And that’s prompting farmers in the Midwest to switch from planting corn to soybeans, said Dave Weaber, an analyst with Cattle-Fax in Denver. That, in turn, has helped propel corn prices above $3 a bushel, the most in eight years.

“We would need a record corn crop this year to keep prices in line,” Weaber said.

Those soaring corn prices ripple across the economy, sparking increases in a host of products -- from ketchup to candy to soda pop and even smoked salmon -- that rely on corn syrup for sweetener. And what’s happening with corn and soybeans applies upward pressure on beef, because ranchers put both in their cattle feed.

In the U.S., beef is fetching 12.8% more than it did a year ago, despite fallout from the mad-cow-disease scare and the subsequent ban on exports of U.S. beef by foreign countries. As for chicken, it costs 6.5% more than a year ago.

According to economists, there were a number of factors behind the two-decade slide in inflation in the U.S., including rising worker productivity, falling prices for energy and other commodities and the boom in global trade that shifted production of many goods to low-cost nations such as China.

Similarly, the recent turnaround in prices stems from several sources. Oil prices have reached 13-year highs as global demand has strengthened while the Organization of the Petroleum Exporting Countries has kept a tighter rein on output.

The value of other commodities, in particular metals such as copper and nickel, also has shot up in the last year, fueled in part by hefty demand from China, where the economy has been booming.

What’s more, the dollar’s value has weakened substantially compared with other key currencies, pushed down by investors’ worries about the ballooning U.S. budget and trade deficits. A weak dollar can raise the prices Americans pay for imported products.

But perhaps the biggest reason for the uptick in many prices is that the U.S. economy has been far stronger than many analysts expected it to be. Consumer spending has remained robust, and in recent months has even accelerated: The government said Tuesday that March retail sales rose at the fastest rate in a year.

“The Fed’s assessment has been that we were more likely to see inflation stay low than pick up,” said Michael Darda, an economist at investment firm MKM Partners in Greenwich, Conn. But the latest inflation information “suggests that the deflationary pressures have been completely unwound.”

That doesn’t mean inflation will be unleashed. “Inflation should remain contained [because of] global competitive pressures and solid productivity growth,” said Edward Yardeni, an economist at Prudential Equity Group in New York.

At the same time, inflation’s reemergence is likely to push interest rates higher, hurting housing and other sectors of the economy. Indeed, that has already been happening: The rate on the 10-year U.S. Treasury note, a benchmark for mortgages and other long-term rates, was at 4.36% on Wednesday, up from 3.68% in mid-March.

As inflation rises, investors demand higher interest rates on bonds to compensate for the erosion of their purchasing power.

The Federal Reserve, which has been holding its benchmark short-term interest rate at a generational low of 1% since June, is expected to begin raising that rate by fall. By tightening credit, the Fed would be applying the brakes to the economy in an effort to keep inflation in check.

With inflation on the upswing, “the day the Fed raises rates is coming sooner than many thought,” Naroff said.

Among all the food items that are more pricey today than a year ago, eggs have seen one of the steepest jumps: A carton commands a third more, the Bureau of Labor Statistics said. That hike has left analysts at the Department of Agriculture scratching their heads.

Anecdotally, retailers and producers have speculated that the run-up in the price of eggs is a byproduct of America’s infatuation with the protein-oriented Atkins diet. But the data don’t bear that out, said Ephraim Leibtag, a USDA economist.

Per-capita egg consumption actually dropped by a bit more than one egg to 254.2 last year, Leibtag said. At the same time, production has increased slightly to more than 7.3 billion pounds of eggs.

“It doesn’t look to be a matter of supply and demand,” he said.

Leibtag speculated that producers’ costs have been rising because they’ve increased the cage space allotted to each hen. Anyway, shoppers don’t appear to be overly sensitive to the increase, he said, perhaps because eggs are such a small portion of their budgets.

“Retailers will raise prices when they can and stay there as long as competition allows,” Leibtag said. “When food prices go up, it’s not purely based on increases in commodity prices.”