The CPI report was encouraging. The total CPI rose 0.2% and the year over year increase is only 2.6%. Although real average hourly earnings fell, real weekly earnings were unchanged.My first thought is that I don't think that this is encouraging at all; and I'm not alone. Core prices fell; these prices are typically very, very sticky. For example, shelter prices are biased upwards in their calculations, but have been declining or unchanged for every month since August 2009. I know that the output gap is not directly observed, except by proxy in the capacity utilization numbers or the unemployment rate; but it must be huge to do this to housing costs.
The core CPI actually fell for the first time since 1982, bring the year over year change in the core CPI to 1.6%. The 6 month SAAR for the core CPI is 0.8%. Despite all the worries about inflation the normal pattern is for the best cyclical reading on the core CPI to occur in the first year or two after a recession. If the economy follows the normal pattern, the core CPI should continue to moderate for another year or two.
Look at it differently: the velocity of money improved in October and November of 2009...
... but then took a step back in December of 2009. If this trend continues, non-energy prices are sure to back down much further. There's just no support for price action at this time - the Fed can't pull back... it probably should be putting more in.
Note on data: Macroeconomic Advisers now publishes a blog where they make available their calculated monthly GDP series (nominal and real) to the public (thank you).