Smith Faculty Opinion Article	June 15, 2006
By Dr. Peter Morici, Professor of International Business EMAIL WEB SITE

Consumer Prices Jump in May Stagflation Is a Risk

Today, the Labor Department reported that the Consumer Price Index rose 0.4 percent in May on a seasonally adjusted basis, as energy prices surged 2.4 percent. The consensus forecast was 0.5 percent, and my forecast published by Reuters was also 0.3 percent.

Seasonally adjusted, food prices were up 0.1 percent in May after virtually no change in April. Wholesale prices for food fell 0.5 percent in May and rose only 0.1 percent in April, indicating inflationary pressures from food prices should be moderate through the summer.

Energy and food prices are quite erratic month to month, and Fed policymakers pay close attention to movements in the core indexes. The Fed is particularly concerned about the pass through of higher petroleum prices into other sectors of the economy.

Core producer prices producer prices less food and energy rose 0.3 percent in May. This was consistent with the consensus of forecasters, and raises the likelihood that the Fed will raise interest rates.

Inflation remains above Fed Chairman Ben Bernanke's target range. The only question now is how many more interest rate hikes will we get?

The outlook for inflation is significantly colored by energy prices.

Gasoline prices surged in May. The average retail price of gasoline in May was $2.95 per gallon, up from $2.79 in April. Gas prices hit $2.99 per gallon on May 15 but then eased. In June, gas prices are rising and will likely surge as the July 4 weekend approaches.

Until recently, strong productivity gains have permitted producers of most final goods and services to absorb higher fuel prices and wage increases without pushing up prices too much. However, May increases in both core producer and consumer prices indicate that energy price increases are spreading widely through the economy, and the hawks will have the upper hand at the June Fed meeting.

Although inflation is heating up, April and May retail sales, jobs and wage data indicate the economy is slowing, as do recent reports from the automobile, housing and construction sectors. International oil and commodities markets remain the most important sources of inflation, but those are beyond the reach of Fed policy. If the Fed acts too vigorously to contain inflation, it risks derailing the economic expansion and pushing up unemployment.

Recent rhetoric from the Fed indicates a much stricter monetary policy stance than in recent years. If the hawks have their way, the soft landing for the economy anticipated by forecasters and the Fed could turn into a recession.

The economy could be facing a bout with stagflation.

Peter Morici is an economist and professor at the Robert H. Smith School of Business at the University of Maryland. He is a recognized expert on international economics, industrial policy and macroeconomics. Prior to joining the university, he served as director of the Office of Economics at the U.S. International Trade Commission.