Import Prices Show Little Problem with Weak Dollar

The channel through which a weak currency fuels inflation is through imported prices. The US reported that import prices rose 0.1% in September, but are 12% lower on a year-over-year basis. This was slightly lower than consensus expectations. Excluding energy, core import prices rose 0.6% and are off 4.1% from last Sept.

In terms of origin of imports, import prices from Canada and the Pacific Rim countries (including China and Japan), rose 0.1%. Canada's energy intensive import prices are still 19% below year ago level. Imports from China are 3.2% cheaper in price terms. The price of Japanese imports has risen 2.4% from last Sept. Price of EU goods rose 0.5% on the month and are off 4.6% from a year ago.

There are a number of reasons why the US experiences limited pass through of currency movement to goods prices. First, many goods are still priced in dollars, despite the efforts in some circles to boost the use of their own currencies for trade and invoicing purposes. Second, when hit with an exchange rate shock, many European and Asian companies will accept narrower profit margins to maintain market share. This competitive style, which may be a function of a reliance on (patient) bank capital instead of (impatient) market capital, means that prices are not adjusted to reflect the full currency shock. Thirdly, the US is a large and competitive economy. After a good is imported, it needs to be stored, marketed and transported. These domestically incurred costs can be 30-50% of the total price of a good.

Vice Chairman of the Fed Kohn reiterated the Fed's view yesterday that the risk of deflation is greater than the risk of inflation. An increase in imported prices could give domestic producers greater pricing power too and thereby ease the risk of deflation. That means that a greater rise in import prices would, in the current environment, be more desirable.