Inflation watch - December 2016

The Insurance Information Institute (I.I.I.) Inflation Watch spreadsheet contains the latest data from the U.S. Department of Labor’s Bureau of Labor Statistics (BLS). Both current and expected near-term general inflation continue to be low by historical standards, but there are pockets of rising inflation. The CPI-U—the popular measure of inflation, sometimes called headline inflation—rose by 2.1 percent in December 2016 vs. December 2015, before seasonal adjustment. Core inflation—the overall index minus the effects of price changes for food and energy—rose 2.2 percent for the 12 months ending December 2016. (Even though the two measures were nearly identical this month, most economists prefer a year-over-year time frame and the core—not the “headline” inflation measure.) The BLS year-over-year core inflation rate had been slowly trending up since May 2015 but has been essentially flat since January 2016. The core year-over-year Personal Consumption Expenditure (PCE) deflator—the Federal Reserve Bank’s preferred inflation measure—has ranged from 1.3 percent to 1.9 percent since the end of the Great Recession and, as of November 2016, was 1.7 percent (the latest value). By some measures there still appears to be a little slack in both the U.S. and especially the larger global economies, making sharp near-term overall future price increases unlikely. From a macroeconomic policy viewpoint, sharply rising inflation doesn’t appear to be a current or near-future problem to combat, but gradually rising inflation is possible and is being watched by the Federal Reserve Board’s Open Market Committee, among others. Many forecasters project headline CPI for 2017 to move higher, ranging between 2.1 and 2.9 percent.

Price trends for items that more directly affect property/casualty (P/C) insurance claims do not necessarily follow broad-based price indexes. Prices for items such as intensive healthcare affect claims under third-party coverages such as workers compensation and bodily injury liability, as well as first-party coverages like Personal Injury Protection (PIP) and med pay and, obviously, medical expense insurance. For many years these price increases have far outpaced both headline inflation and the overall price index for medical care. Seasonally adjusted on a year-over-year basis, in December 2016 prices for inpatient hospital care rose by 4.9 percent. Seasonally adjusted prices for outpatient hospital services rose by 3.3 percent in December 2016 over December 2015. This could constitute a “new normal” for these services: in 16 of the last 19 months, the year-over-year rise in outpatient hospital prices was below 4 percent. Price changes for prescription drugs have been rising strongly; December 2016 saw a 6.2 percent year-over-year rise.

Price increases relating to auto insurance property claims have been quite moderate recently. Prices for motor vehicle parts and equipment, which affect not only comprehensive and collision claims, but property damage liability as well, dropped by 1.0 percent in December 2016 vs. December 2015. These prices fell in most months since August 2012, although oddly the December 2016 change from November 2016 was +0.6 percent—the largest one-month rise in 5 years. Current prices for motor vehicle parts and equipment are about even with prices in April/May 2011. Prices for motor vehicle repair rose by 2.2 percent for the 12 months ended December 2016, thanks primarily to a one-month jump of 0.7 percent in November 2016 over October 2016. Prices for motor vehicle body work rose by 2.9 percent year-over-year (not seasonally adjusted). The BLS survey of consumer prices for motor vehicle insurance in December 2016 rose by 7.0 percent year-over-year; this is partly attributable to one-month increases of 0.8 percent or greater in four of the last 12 months. Of course, many factors other than prices for auto repair—such as the continuing drop in insurers’ investment income, and continuing above-CPI growth in the prices for intensive medical care, and an unusual upturn in the collision rate, which is related to the increase in the number of people employed (and adding cars to rush hour)—likely are affecting these increases.

Also, there are some signs that wages are growing barely faster than inflation. The Bureau of Labor Statistics reported that on a year-over-year basis, average weekly earnings grew by 2.3 percent in December, and average hourly earnings grew by 2.9 percent. Wage growth affects workers compensation and, indirectly, liability and PIP claims. Wage growth above inflation means consumers have increased buying power, which could lead to stronger economic growth near term. As the economy approaches full employment wage gains over inflation are expected to widen, but that might take some time to develop. There is still slack in the labor market, as evidenced by the 5.6 million people who are working part-time but want full-time employment, the 426,000 people who say they are “discouraged” from even looking for a job, and others who are not in the labor force but could join if job conditions tighten, etc. The labor market slack is generally believed to restrain higher inflation, at least in the coming months.