January 30, 2023 Reading Time: 3 minutes

Inflation appears to be on the decline. The Personal Consumption Expenditures Price Index (PCEPI), which is the Federal Reserve’s preferred measure of inflation, grew at a continuously compounding annual rate of 4.9 percent from December 2021 to December 2022, down for the third consecutive month. Year-on-year inflation was a whopping 6.1 percent from September 2021 to September 2022.

Of course, the decline in inflation does not mean that prices are falling. It merely means that prices are not growing as fast as they were. The PCEPI is 6.6 percentage points higher today than it would have been had the Fed hit its 2 percent inflation target since January 2020, just prior to the pandemic. Moreover, Fed officials have indicated that they will not try to bring prices back down to the pre-pandemic growth path. In December, the median member of the Federal Open Market Committee (FOMC) projected 3.1 percent inflation for 2023.

Figure 1. Headline and Core Personal Consumption Expenditures Price Index, January 2020 to December 2022.

Although the 12-month inflation rate is certainly meaningful to households, some of which are struggling to pay the higher prices, it potentially obscures just how fast headline inflation is falling. The 12-month inflation rate is high, in part, because prices rose rapidly from December 2021 to October 2022. In the past two months, prices have risen at an annualized rate of just 1.1 percent, well below the Fed’s 2-percent target.

Fed officials are no doubt relieved to see inflation finally coming down, but they say they will keep working until the job is done. “Inflation is high, and it will take time and resolve to get it back down to 2 percent,” Fed Governor Lael Brainard told attendees at a recent event. “We are determined to stay the course.”

New York Fed President John Williams also said the Fed must “stay the course.” “With inflation still high and indications of continued supply-demand imbalances, it is clear that monetary policy still has more work to do to bring inflation down to our 2 percent goal on a sustained basis.”

Some Fed officials are prepared to go even further. In a recent speech, Dallas Fed President Lorie Logan said the FOMC will “need to remain flexible and raise rates further if changes in the economic outlook or financial conditions call for it.” 

St. Louis Fed President James Bullard said he would prefer another 50-basis-point hike when the Fed meets next week, compared to the much-anticipated 25-basis-point hike. 

The question now is whether headline inflation will remain low, or shoot back up in the coming months. “We don’t want to be head-faked,” Fed Governor Christopher Waller told attendees at an event last week.

Waller is right to be cautious. Although headline inflation has fallen considerably in recent months, core inflation—which excludes volatile food and energy prices and is thought to be a better predictor of future inflation—remains elevated. Core PCEPI grew at an annualized rate of 4.3 percent in December 2022. It had previously fallen from 3.3 percent in October to 2.2 percent in November.

It is hard to know how Fed officials are interpreting the latest inflation data. They have entered the blackout period ahead of next week’s FOMC meeting. At this point, it seems likely they will move forward with a 25-basis-point hike. But how high they will push rates this year, and how long they will keep rates high, remain open questions.

William J. Luther

William J. Luther

William J. Luther is the Director of AIER’s Sound Money Project and an Associate Professor of Economics at Florida Atlantic University. His research focuses primarily on questions of currency acceptance. He has published articles in leading scholarly journals, including Journal of Economic Behavior & Organization, Economic Inquiry, Journal of Institutional Economics, Public Choice, and Quarterly Review of Economics and Finance. His popular writings have appeared in The Economist, Forbes, and U.S. News & World Report. His work has been featured by major media outlets, including NPR, Wall Street Journal, The Guardian, TIME Magazine, National Review, Fox Nation, and VICE News. Luther earned his M.A. and Ph.D. in Economics at George Mason University and his B.A. in Economics at Capital University. He was an AIER Summer Fellowship Program participant in 2010 and 2011.  

Selected Publications

Cash, Crime, and Cryptocurrencies.” Co-authored with Joshua R. Hendrickson. The Quarterly Review of Economics and Finance (Forthcoming). “Central Bank Independence and the Federal Reserve’s New Operating Regime.” Co-authored with Jerry L. Jordan. Quarterly Review of Economics and Finance (May 2022). “The Federal Reserve’s Response to the COVID-19 Contraction: An Initial Appraisal.” Co-authored with Nicolas Cachanosky, Bryan Cutsinger, Thomas L. Hogan, and Alexander W. Salter. Southern Economic Journal (March 2021). “Is Bitcoin Money? And What That Means.”Co-authored with Peter K. Hazlett. Quarterly Review of Economics and Finance (August 2020). “Is Bitcoin a Decentralized Payment Mechanism?” Co-authored with Sean Stein Smith. Journal of Institutional Economics (March 2020). “Endogenous Matching and Money with Random Consumption Preferences.” Co-authored with Thomas L. Hogan. B.E. Journal of Theoretical Economics (June 2019). “Adaptation and Central Banking.” Co-authored with Alexander W. Salter. Public Choice (January 2019). “Getting Off the Ground: The Case of Bitcoin.Journal of Institutional Economics (2019). “Banning Bitcoin.” Co-authored with Joshua R. Hendrickson. Journal of Economic Behavior & Organization (2017). “Bitcoin and the Bailout.” Co-authored with Alexander W. Salter. Quarterly Review of Economics and Finance (2017). “The Political Economy of Bitcoin.” Co-authored with Joshua R. Hendrickson and Thomas L. Hogan. Economic Inquiry (2016). “Cryptocurrencies, Network Effects, and Switching Costs.Contemporary Economic Policy (2016). “Positively Valued Fiat Money after the Sovereign Disappears: The Case of Somalia.” Co-authored with Lawrence H. White. Review of Behavioral Economics (2016). “The Monetary Mechanism of Stateless Somalia.Public Choice (2015).  

Books by William J. Luther

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