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Consumer Prices Rise on Energy Cost Surge
Yahoo News/AP
January 18, 2006

WASHINGTON - Consumer prices rose by the largest rate in five years in 2005, reflecting a surge in energy costs, although other prices remained well behaved.

The Labor Department reported that its closely watched Consumer Price Index was up 3.4 percent for the 12 months ending in December, the biggest jump since a similar 3.4 percent rise in 2000, another year when energy prices were soaring. But outside of the volatile sectors of food and energy, core inflation posted a 2.2 percent rise for all of 2005, unchanged from the 2004 gain.

And in other good news, inflation ended the year on a tame note with overall prices dropping by 0.1 percent in December following an even bigger 0.6 percent decline in November. It marked the first back-to-back monthly declines in consumer prices since late 2003.

The 3.4 percent increase in consumer prices for the 12 months ending in December was up slightly from a 3.3 percent rise in 2004. It was the biggest annual gain since a similar 3.4 percent price rise in 2000, the final full year for the country's 10-year economic expansion, the longest in U.S. history.

Both 2004 and 2005 were heavily influenced by soaring energy prices, which jumped by 17.1 percent last year and were up 16.6 percent in 2003. Both years posted the biggest increases in energy costs since 1990, a year when Iraq's invasion of Kuwait sent tremors through global oil markets.

However, outside of energy and food, the 2.2 percent rise in core inflation matched the increase in 2004 with both years up from a tiny 1.1 percent increase in 2003, a year when the Federal Reserve cut interest rates to a 45-year low to guard against the remote possibility of deflation, a destabilizing fall in prices.

Since June 2004, the Fed has been pushing interest rates gradually higher. It is expected to boost rates for a 14th time at its Jan. 31 meeting, the final session for Federal Reserve Chairman Alan Greenspan, who is stepping down after 18 1/2 years at the central bank.

Many economists believe the Fed will raise rates twice more, at this month's meeting and also on March 28, which will be the first session when Ben Bernanke, Greenspan's designated successor, will preside. Then, analysts believe, the Fed will move to the sidelines, leaving rates unchanged for the rest of the year.

"It is encouraging that core inflation in 2005 was no higher than the year before even though we had record oil prices," said Nariman Behravesh, chief economist at Global Insight. "From that perspective, the Fed can feel confident that inflation won't get out of control."

The Fed triggered a huge stock market rally in the first week of the new year when minutes of its December discussions indicated that the central bank was getting close to the end of its credit tightening campaign.

The Labor Department said that 40 percent of the 2005 rise in inflation came from the jump in energy costs.

However, energy prices moderated at the end of the year, dropping by 2.2 percent, the third consecutive monthly decline in energy costs after a huge surge in September that had been caused by widespread shutdowns of Gulf Coast production facilities following Hurricane Katrina.

Gasoline prices had surged to a record well above $3 per gallon while crude oil prices topped $70 per barrel.

Analysts are expecting moderate inflation for 2006 but they caution that a lot will depend on whether energy prices retreat or whether those costs keep rising and start to spill out to other parts of the economy.

Indications in this area have not been good in recent days with crude oil prices rising to a 3 1/2-month high — above $66 per barrel — and with motorists around the country noticing a resurgence in rising prices at the pump.

For December, food prices posted a modest 0.1 percent increase while clothing prices actually fell by 0.3 percent and medical care, which had been surging, slowed to a 0.1 percent gain.

Excluding food and energy, core inflation was up 0.2 percent in December.

Here's how it works. Take GDP in 2005 and subtract inflation of 3.4%. Now you can see what's really going on.