By Neil Irwin
Washington Post Staff Writer
Thursday, June 17, 2010; 11:18 AM
A silver lining of the European debt crisis is starting to emerge: falling prices in the United States.
Consumer prices fell 0.2 percent in May, the Labor Department said Thursday. The department said Wednesday that wholesale prices fell 0.3 percent. Both were driven by a dip in global prices for oil and other commodities caused by investor concern that, given the troubles in Greece and other European nations, the global recovery could slow.
Also Thursday, the Labor Department said that 472,000 people filed new claims for unemployment insurance benefits last week, up from 460,000 the previous week and adding to evidence that the job market is recovering very slowly.
In the short run, the biggest impact of the European problems on U.S. inflation has been on commodity prices, and that impact was almost instantaneous; the price of oil, for example, fell from a recent high of $86.84 in early April to $77.67 Wednesday. But the slowdown overseas, combined with continued high unemployment and idle factories in the United States, is causing very low inflation even aside from the recent dip in energy prices.
The consumer price index rose 0.9 percent in May over a year earlier, when food and energy are excluded. The producer price index excluding food and energy rose 1.1 percent. Both of those figures are below the 2 percent or so annual inflation that Federal Reserve policymakers target.
Few analysts expect prices to start falling outright, a dangerous phenomenon known as deflation, though many would concede that the risk of deflation taking hold has edged up following the deepening of the European crisis.
That risk could become more severe if the economic recovery, which has been underway for about a year, was to weaken or cease. There was positive news on that front Wednesday, as the Fed announced that industrial production rose 1.2 percent in May, more than expected and the 10th rise in the past 11 months.
That helped bolster the case that the U.S. economy continues its steady expansion heading into summer, despite some recent disappointing data including a weak private-sector job growth figure for May and a steep drop in retail sales that month. The manufacturing sector has become a significant driver of growth.
"The breadth of the rebound is impressive and creates self-reinforcing demand for materials and equipment across the whole manufacturing sector," said Daniel J. Meckstroth, chief economist at the Manufacturers Alliance, a trade group.
The mix of a steadily expanding economy, low inflation and risks from Europe will be the focus of discussion next week as the Fed holds a two-day policymaking meeting. The central bank's leaders remain generally confident that the economic expansion is on track, according to recent speeches and public statements.
But they also acknowledge that the European system, which worsened substantially since their last meeting in late April, has created a new risk for U.S. growth as the year progresses. In particular, European governments' spending cuts, designed to lower budget deficits, could also slow the world economy and add to the risk of deflation.
"I doubt that the Fed officials' baseline view will be that this will cause a significant slowdown in the U.S.," said Dean Maki, chief U.S. economist for Barclays Capital. "I wouldn't expect any major change in their views, but certainly there's some tail risk that wasn't there before."
As for monetary policy, the Fed is likely to keep its target for short-term interest rates unchanged near zero and restate its intention to leave rates low for an extended period, even as it readies plans to abandon that stance in the future. The absence of visible inflation risk -- which the Europe situation has fueled -- and mixed economic data have taken away the urgency of interest rate increases, which Fed leaders have indicated would be triggered by a significant improvement in the economy or a rise in inflation or inflation expectations.