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If core CPI means anything, Fed options limited

WASHINGTON (MarketWatch) -- For years now, the refrain from the Federal Reserve on inflation has gone something like this:

Yes, we see oil (and therefore gasoline) prices rising, and no, we're not happy about it, but when forecasting future inflation, it's best to look at the core.

And, it should be quickly added, the Fed was absolutely right. Spikes in oil didn't lead to massive increases in inflation, so it was wise for the central bank to focus on the other half of its mandate, namely reducing unemployment.

But there is a new situation now. With oil prices falling, headline inflation is coming down very quickly. But core inflation is not. On a monthly basis, consumer prices fell 0.3% while the core rose 0.2%. Year-over-year, the core price rise stayed at 2.3% while consumer price growth slowed to 1.7%.Read MarketWatch's coverage of May inflation report.

Maybe core simply reflects a lagged impact from past energy price rises. But another possibility is that the high jobless pool has run its course in restraining inflation, and that companies are finally going to take to hiking prices to rebuild margins.

If core inflation really is the number to focus on, then the Fed's options heading into next week and beyond are fairly limited.

That's not to say the Fed couldn't do something like extending Operation Twist, or even for that matter initiate some sort of outright bond purchase plan in August.

The Fed is saddled with cleaning up the messes of the two elephants -- namely, a Europe that still can't put its debt crisis to bed and a Congress and White House that can't resolve the impending fiscal cliff -- so the central bank will feel the pressure to do something. But the scope to take aggressive action might just not be there.

What the core giveth, the core taketh away.

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