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US CPI Inflation

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US CPI Inflation

In this Macro Flash Note, EFG Chief economist Stefan Gerlach interprets the recent rise in US CPI inflation.

Stefan Gerlach
Stefan Gerlach

The US CPI data that were published yesterday showed sharp increases in headline and core CPI inflation. With headline inflation rising to 2.6% and core inflation reaching 1.6%, some commentators are no doubt wondering whether US inflation is spiralling out of control.

However, these increases are largely expected and reflect the “base effect” – the fact that levels of the headline and core CPIs fell because of Covid-19 from February to May 2020, leading to a pronounced decline in inflation at that time.1 As these price declines drop out of the inflation calculations twelve months later, inflation will unavoidably rise sharply. Importantly, that does not mean that the current inflation rate has risen permanently: inflation will fade in the second half of this year as the base effect washes out.

To show the importance of the base effect, the calculations below assume that headline and core CPI inflation grow at a constant annual trend rate of 2% from February 2021 onward.2 Under this assumption, the headline rate for March was predicted to be 2.2% and the core inflation rate 1.5%. Inflation was predicted to continue to rise sharply with headline inflation peaking at 3.4% in May and core inflation reaching 2.4% in the same month (see the dotted lines in the graph).

The fact that inflation in March was higher than forecast implies that the updated inflation trajectories lies a little above the previous forecasted paths, but their shapes remain similar. Headline inflation is now expected to peak at 3.7%, and core inflation at 2.4%, in May before starting to decline toward 2% as the base line effect disappears. 

Chart 1. CPI inflation in the US

Source: FRED

1 See Daniel Murray’s Infocus piece on “US Inflation: four phenomena,” March 2021, or Stefan Gerlach's Infocus piece on “Forecasting global inflation,” February 2021.

2 Compounded growth rates are used. A 2.00% compounded growth rate corresponds to a 2.02% growth rate.