Fuel Costs Pushed Up Inflation In May

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By Neil Irwin
Washington Post Staff Writer
Saturday, June 14, 2008

Americans faced sharply higher prices in May, the government said yesterday, as soaring costs for energy drove overall prices up at the fastest rate since November.

The consumer-price index rose 0.6 percent for the month, the Labor Department said, and the prices Americans pay for the broad range of goods and services are up 4.2 percent for the past year. When food and energy are excluded, however, prices rose 0.2 percent.

While the higher May prices in the Labor Department report were expected, they showed the deep stresses affecting consumers and the challenges that the Federal Reserve faces in trying to rein in inflation. Besides making trips to the gas station expensive, rising inflation is making it more expensive for companies to borrow money to expand and for ordinary Americans to buy a house.

In recent days, long-term interest rates have risen, as investors have become concerned about high inflation and have concluded that the Federal Reserve will ultimately have to raise rates sharply. The yield on 10-year Treasury bonds rose to 4.3 percent yesterday, from 3.8 percent a month ago. The average 30-year-fixed-rate mortgage was 6.3 percent this week, Freddie Mac reported, up from 6 percent a month ago.

"These rising mortgage rates are going to push back any kind of housing recovery," said David Shulman, a senior economist at the UCLA Anderson Forecast.

The price of oil fell on world markets yesterday, off $1.88 per barrel to $134.86, as the Saudi Arabian state oil company signaled it may soon increase production. The fall in oil, coupled with the inflation report that was in line with expectations, drove up the stock market. The Dow Jones industrial average was up 166 points, or 1.4 percent, leaving the index up slightly for the week.

The Fed is in a difficult spot, in part because inflation is being driven almost entirely by prices on global commodity markets, over which the central bank has little power. The price of energy rose 4.4 percent in May, according to yesterday's report, and 28.2 percent over the past year.

"The Federal Reserve can't make corn grow and can't make somebody produce more oil when there isn't any," Shulman said. What it can do is raise interest rates broadly, aiming to slow the economy. The problem is that right now, the economy is hardly overheating.

Leaders of the central bank have expressed rising concern about inflation in recent weeks, which signaled that interest rate hikes are a possibility later in the year. Fed Chairman Ben S. Bernanke said Monday that policymakers "will strongly resist an erosion of longer-term inflation expectations."

Fed leaders, however, are still deeply worried about a softening economy, and think that financial market distress could return. Therefore, they are likely to leave the short-term interest rate they control unchanged when they meet June 24 and 25.

"I'm not saying the Fed is going to raise rates because of this in June," said Stuart G. Hoffman, chief economist at PNC Financial Services Group. "But it does put them a bit more on the defensive in terms of continuing to say that core inflation, and inflations, aren't taking a turn for the worse."

Also yesterday, former Fed chairman Alan Greenspan added his voice to the list of those saying that the financial crisis is easing. World credit markets have healed significantly since a series of Fed interventions in March.

"The worst is over in the financial crisis or will be very soon," said Greenspan, in remarks via satellite to a conference in Mexico City. "There is a reduced possibility of a large, intense recession."


© 2008 The Washington Post Company

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