The June data on consumer prices reinforced fears about the danger of worsening price inflation. For the second quarter of 2008, the Consumer Price Index (CPI) was 7.9 percent higher than a year ago after rising at a 4.2 percent seasonally adjusted annual rate during the first three months of the year.

Once again energy and food prices appeared to be the culprit. Over the April-June period, energy prices increased at an annualized rate of 53.6 percent and domestic food prices went up by 8.5 percent.

The chart below shows the general rate of price inflation in the United States over the last five years as measured by the CPI, and the rate at which the CPI has increased minus food and energy costs.

 

The CPI minus food and energy prices (the “core” rate of price inflation) has risen at far more modest rates over this time. Especially in the first half of 2008, energy and food prices have been increasing at much higher rates than those of other goods and services. Another way of saying this is that within the process of general price inflation there has been a significant change in relative prices, with food and especially energy prices rising relative to the other consumer items included and tracked in the CPI basket of goods (See AIER Commentary, “The Consumer Price Index vs. the Diversity of Consumer Choice” 23 May 2008).  

Media and many political commentaries have suggested that the high and rapid rise in energy and related commodity prices threaten to serve as the “cost-push” impetus to set off a general inflationary spiral that might get out of control and would be difficult to reverse.  

But as was explained in part one of this article, a change in relative prices cannot by itself set in motion a continuing inflationary process unless it is supported by an accompanying “demand-pull” from increases in the supply of money and credit (See AIER Commentary, “Global Inflation and Rising Commodity Prices, Part I” July 9, 2008).

The current “crisis” in energy prices has resulted from global demand rising faster over the last decade than the global supply to match it, in spite of large world-wide known oil reserves (See AIER Commentary, “The Global Oil Crisis: The Supply Problem is a Government Problem” June 18, 2008).

If there were no increases in the supply of money and credit around the world, an attempt by consumers and producers to maintain or increase the demand for oil and related commodities in the face of their rising prices would require reduced spending on other things. Thus, the rise in energy prices would have to be matched by decreases in the demand for and prices of other goods.

That this has not occurred both in the United States and around the world demonstrates that there must be significant increases in national money supplies. These increases would enable many demanders in different parts of the world to pay higher prices for oil and food and maintain their money spending on a wide variety other things at the same time.

This is precisely what is seen in the table below when we look at the monetary aggregates for the central banks in the U.S., that portion of the European Union that uses the Euro, the United Kingdom, China, and India.

The national monetary aggregates are not all measured and calculated the same way by these respective central banks. But for some general comparison, we may broadly speak of them respectively as narrow, medium and broad measurements of these money supplies. (The data is also not uniformly available from these central banks for the period looked at.)

 

In the U.S., medium and broad measures of the money supply have been accelerating over the last year. In the Euro zone and the UK medium and broad monetary aggregates have been in or near the double digit range. And in China and India, all monetary aggregates have been expanding at truly high rates of increase.

It is no wonder that global price inflation has been worsening, especially over the last year. Price inflation in the Euro zone reached 4 percent in June, significantly above the European Central Bank's inflation target of slightly less than 2 percent. In the UK price inflation reached a 13-year high in June of 3.8 percent, from 3.3 percent in May.

Consumer price inflation in China was reported at 7.1 percent in June, with wholesale prices rising at an 8.8 percent rate of increase. And in India, for the 12-month period ending in June, price inflation was just below 12 percent.

Central banks in the leading developed and developing countries of the world have created more than enough increases in their money supplies to assure that demand-pull inflation has “validated” the cost-push pressures resulting from the dramatic increase in the relative prices for energy and food.

As long as central banks continue to expand their money supplies anywhere near the current rates of growth, the rising costs for food and energy will result in general price inflation rather than only adjustments in people’s spending patterns because of a change in the relative prices of some essential commodities.

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