Inflation Mounted Swiftly In May

By Nell Henderson
Washington Post Staff Writer
Thursday, June 15, 2006

Consumer prices rose briskly again in May, led by rising costs for gasoline and housing, the Labor Department reported yesterday, boosting the likelihood that the Federal Reserve will keep raising rates to restrain inflation.

With many motorists paying more than $3 a gallon for gasoline, landlords hiking rents and businesses passing on more of their rising energy and materials costs to shoppers, the department's consumer price index rose 0.4 percent last month after a 0.6 percent increase the month before.

Inflation is eroding consumers' purchasing power, as prices rise faster than most workers' wages, the department said in another report. After adjusting for inflation, average weekly earnings declined 0.7 percent last month and bought 0.2 percent less than in May last year.

"Inflation is definitely on the rise . . . and it will be troubling for many consumers, particularly those at the lower end of the income scale," said Richard Yamarone, director of research for Argus Research Corp., a financial analysis firm. Even so, he added, "inflation is not at a level that is going to cripple the economy, and it appears the Fed is on top of things and will indeed combat these mounting pressures."

Stock markets rose yesterday after sinking for weeks on concerns about inflation and tightening credit. "There's a pause in the panic," said Bank of America market strategist Joseph Quinlan. "Some brave souls are stepping back into the market to buy" blue-chip stocks and other companies they consider to be safe investments.

The Dow Jones industrial average of 30 of the largest companies gained 1.03 percent. The Standard and Poor's 500-stock and the Nasdaq composite index each rose less than 1 percent.

Stocks in Europe, Japan and other developed economies also jumped for the first time in more than a week, though some in less-developed emerging markets continued to fall. "We think we will see a slowdown of this sell-off and a bit of consolidation . . . but the equity markets are still going to be quite nervous for a while," said Anton Pil, head of global fixed-income trading for JPMorgan Private Bank.

Analysts widely predict the Fed will raise its key short-term interest rate to 5.25 percent from 5 percent at their meeting in two weeks, for a 17th consecutive increase.

If inflation pressures ease in coming months, Fed policymakers might leave the rate unchanged for a while at 5.25 percent. But if not, they could raise it to 5.5 percent at their meeting in August.

Fed officials think that the recent spurt of inflation will probably prove to be temporary and that price pressures will be dampened as the economy loses steam. But they are not sure of this forecast and worry that inflation might be more persistent given the economy's underlying strength, low unemployment and higher-than-expected oil prices.

The Fed's latest survey of regional economic conditions, also released yesterday, found that "high energy costs were fueling price increases in manufacturing and, to a much lesser extent, retail" from mid-April through early June. "Reports of costs being passed forward varied considerably but were more prevalent" than in the previous survey.

The CPI has risen at a 5.2 percent annual rate this year, after adjusting for seasonal variations, a much hotter pace than the 3.4 percent increase recorded for all of last year.

More than half of the May CPI increase reflected higher rents and hotel and motel rates. Rents have been rising as the housing market cools, vacancy rates fall and many landlords boost their prices to cover higher energy bills and property taxes. Lodging companies are raising room rates, and airlines are increasing fares as demand strengthens.

The CPI also got a boost from energy prices, which rose 2.4 percent in May, and were up at a 30.8 percent annual rate in the first five months of the year.

Gasoline prices, in particular, rose 4.9 percent last month, to a level higher than the previous peak in September after Hurricane Katrina battered Gulf Coast refineries and pipelines, the department said.

Prices also rose broadly last month in other categories, as consumers paid more for food, clothing, medical care, education, furnishings, used cars and trucks, and tickets to shows and sporting events.

The May price increases more than offset falling prices for electricity, natural gas, new vehicles, toys, video and audio goods, sporting goods, telephone services, computers and equipment.

Many economists look for signs of whether high energy costs are seeping into other prices by studying so-called core inflation measures, which exclude food and energy items. The core CPI rose 0.3 percent last month, the third consecutive monthly increase at that rate -- and a troubling trend for financial markets and the Fed.

The string of recent core inflation readings "provides a strong signal that producers are gaining some leverage in passing higher energy and materials costs through to consumers," wrote Kenneth Beauchemin, U.S. economist for Global Insight Inc., in an analysis of the report.

Core inflation has risen at a 3.8 percent annual rate over the past three months and at a 2.9 percent pace over the past six months -- exceeding the comparable April figures Fed Chairman Ben S. Bernanke cited last week as "unwelcome."

Bernanke vowed then that the Fed would not allow the recent uptick in core inflation to continue, sending a strong signal to financial markets that interest rates are headed higher.

While Fed officials often focus on core inflation, they also worry that trends in overall inflation affect consumers' and businesses' expectations of future inflation, which can be self-fulfilling. Before Bernanke's speech, both consumer surveys and the bond market indicated a small rise in inflation expectations, which rattled the central bank.

"Expectations can quickly become reality," Richard W. Fisher, president of the Federal Reserve Bank of Dallas, said in a speech yesterday. "We can ill afford to somehow encourage expectations that inflation might gain momentum."

Staff writer Brooke A. Masters contributed to this report.

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