Prices fall, US inflation worries ease

The price of a ton of steel is falling – something that helps to ease prices on everything from automobiles to rebar used to buttress concrete. Dresses and trousers are already on sale in department stores. And gasoline prices, after their recent spike, are back down to where they were about a year ago.

Falling prices on many goods are reining in the nation's inflation rate. Thursday, in an economic report that cheered just about everyone, the government reported that the Consumer Price Index (CPI) in October fell 0.5 percent. Even taking out volatile energy and food prices, inflation barely registered, rising only 0.1 percent.

The improving inflation news should help relieve the concerns of the Federal Reserve, the nation's central bank, that inflationary expectations are rising. The Fed meets in the middle of next month to set interest-rate policy. Economists expect the latest report to be one of the factors that keep the bank from taking any action on interest rates.

"I don't think we're going to see a change," says Ann Owen, a former Fed economist now at Hamilton College in Clinton, N.Y. "In the past couple of meetings, even though the Fed has not made any changes, we've seen a dissenting vote in favor of raising interest rates and what we might see now is no dissenting vote."

The inflation numbers are also improving on a year-over-year basis. Compared with last October, prices are up 2.7 percent, a rate that is still higher than the Fed would like to see but a decline from prior months. "The numbers are [going] in the right direction," says Professor Owen.

The improvement in the CPI follows a similar report on Tuesday for the Producer Price Index, a measure of inflation for businesses, which fell 1.6 percent. Taking out food and energy, prices dropped 0.9 percent.

The falling prices reflect the competitive business environment, says Daniel Meckstroth, chief economist for the Manufacturers Alliance/MAPI in Arlington, Va. "Business just can't raise prices."

In an important trend, some commodity prices other than energy are also starting to retreat, he says. Copper, aluminum, and steel are all selling for less than they were this summer. "We're getting a pause in demand, which is giving supply a chance to catch up," says Mr. Meckstroth.

An easing of the inflation rate might also start to relieve what the Fed calls "inflationary expectations" – the public's anticipation that prices will keep going up. However, prices will have to remain down for a longer time to change perceptions, says Dennis Jacobe, chief economist at the Gallup Organization in Washington.

"A considerable number of Americans think the drop in gasoline prices is temporary and prices will go back up, if not this year than next year," he says.

It's not just gasoline prices, Mr. Jacobe adds. Over the last several years, prices have risen for healthcare and education. In Thursday's report, healthcare rose 0.3 percent in October and education 0.2 percent. "People perceive a sizable increase in these areas," he says.

The Fed is also watching the housing sector carefully for signs that the slowdown there will have an adverse impact on future CPI numbers. Housing is weighted to represent 25 percent of the index. To calculate housing costs, the government looks at rents.

"When there is a big drop in housing, everyone who was going to buy stops and starts renting because they think they should wait to see how low prices drop," says Owen. "This increases the demand for rental housing, which is ironic for the Fed because it could raise the CPI, causing them to raise rates. And housing will decline more, so the CPI gets worse, not better. So, the Fed is watching the housing market carefully because they don't want to accelerate the decline in prices."

This week, DataQuick reported that the number of new and existing homes sold in southern California last month was the lowest in 10 years. And prices have leveled off. The median price was $484,000, the same as September, but up 2.3 percent from October a year ago. DataQuick reports that year-over-year increases have been in the single-digit range for the past seven months and are expected to be slightly negative by the end of this year or early next year.

One of the largest factors in the falling CPI last month was the drop in gasoline prices. Energy prices in October were down 7.0 percent from September, which was down 7.2 percent from August.

The falling prices at the pump could augur well for upcoming holiday sales, says Scott Brown, chief economist at Raymond James & Associates in St. Petersburg, Fla. When gasoline prices move up or down, "there is a lag effect ... on consumer spending," he explains. "People are still working off the $3 a gallon they paid this summer, but once they work through those credit-card bills, they will feel better about the outlook."

As a result, Mr. Brown, says he is "cautiously optimistic" about the prospects for the holiday retail sales.