Inflation Eases Off but Fed May Not

Average weekly wages for production and non-supervisory workers, who account for about 80 percent of the labor force, rose 0.3 percent from April to May, after adjusting for inflation, the department said in a separate report. But average weekly wages for those workers fell 0.3 percent in the 12 months ended in May.

Energy prices tumbled 2 percent in May after surging 4.5 percent in April. But oil prices have climbed recently, raising the possibility that inflation will pick up again this month.

Transportation costs fell 1 percent last month, reflecting lower fuel costs, the Labor Department said. Many other prices barely budged last month. Food and housing prices rose just 0.1 percent. Clothing prices were flat.

However, inflation pressures continue to build as the economy expands at a reasonably good pace, according to the Fed's recent survey of regional economic conditions, which also was released yesterday. While Fed officials closely follow national economic data, the survey provides details and anecdotes from the 12 regional Fed banks.

The Federal Reserve Bank of San Francisco, for example, said consumer prices rose in its district from mid-April through May as businesses passed on earlier hikes in energy costs.

The Cleveland Fed said businesses in its district were passing on raw materials costs to customers. Prices rose for many construction materials, such as lumber, cement, brick, tile and glass, in many of the 12 Fed districts, according to the survey, called the Beige Book. Several banks noted increases in transportation and health care costs.

Meanwhile, businesses in several districts complained about the difficulty of finding specific types of workers -- a sign of increasing tightness in the labor market and a potential source of inflationary pressures.

Greenspan's remarks to Congress last week strengthened expectations that Fed officials will lift the federal funds rate, the overnight interest rate charged between banks on overnight loans, to 3.25 percent from 3 percent at their meeting later this month. That would be the ninth quarter-percentage point increase in a year.

Before Greenspan spoke, many analysts had predicted that cooling economic growth and tame inflation would prompt the Fed to raise the rate no higher than 3.5 percent this year -- an expectation reflected aswell in the pricing of futures contracts linked to the funds rate. One Fed official helped fuel such speculation by suggesting in an interview that the Fed might stop at 3.25 percent.

But Greenspan downplayed concerns about slowing growth, highlighted inflation risks and gave no sense that the Fed was planning to pause soon its series of rate increases. Even so, futures contracts tied to the federal funds rate were priced yesterday to reflect traders' expectations that the rate will probably be no higher than 3.75 percent by year-end.

Several Fed officials and staff economists have estimated a neutral federal funds level to be somewhere between 3.5 percent and 5.5 percent but agree it is a moving target that changes with economic conditions.

Greenspan has declined to put a number on neutral, but says he will know it when he gets there.

The chairman may not have a firm idea of how high the rate will go, but "he thinks we are going higher than the market thinks," Dudley said.