Amy Sancetta
The after-effects of the deep U.S. recession are being felt in low prices, which is expected to take the core inflation rate to its lowest level in 44 years.
The core consumer price index, which excludes the volatile food and energy groups, is scheduled for release Wednesday and is forecast to have declined to 1 per cent in April on a year-over-year basis from 1.1 per cent in March, according to a survey of economists by Bloomberg. The overall annual inflation rate is estimated at 2.4 per cent in April, compared with 2.3 per cent in March.
What are the expectations?
A big factor in the low inflation rate is a concept known as owner's equivalent rent. For the past five months that measure has shaved one-half of a percentage point off the inflation rate and typically it accounts for about one-third of the core CPI, said Beata Caranci, director of economic forecasting for TD Securities Inc.
The question homeowners are asked in the survey is what would they expect to be paid if they decided to rent their homes. The concept is that the rent should capture the actual cost of home ownership. "There's a lot of subjectivity," she says.
Rental rates are low because of high vacancy rates, given the number of houses that have been foreclosed and are available for rent, economists say. It is better to rent that stock of unsold homes than leave the homes unoccupied.
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"Ongoing stabilization in the housing market should make this a transitory story," Ms. Caranci said. A recent decline in U.S. home ownership rates, particularly among 45- to 50-year olds, suggests people are moving into rental properties, she said.
There is also speculation that some of an estimated 4.5 million mortgage holders not making their payments could end up in the rental market, pushing rents higher.
The high unemployment levels and falling unit labour costs, along with the amount of unused manufacturing capacity, are the critical factors underlying the low core inflation rate. Those factors could result in the inflation rate dropping below 1 per cent in the coming months, which may reignite fears of deflation, according to TD Securities. But as the economy recovers, TD expects the inflation rate will reach 1.5 per cent by the end of 2011.
For now, investors in U.S. Treasuries do not see inflation as a threat. The yield on 10-year Treasuries fell 12 basis points Tuesday to 3.37 per cent. (A basis point is 1/100th of a percentage point).
The low yield reflects uncertainties over Europe, struggling equity markets and expectations that inflation will remain well-contained, said Mark Chandler, a fixed-income strategist with RBC Dominion Securities Inc.