Recent evidence suggests that there has been much less passthrough in the past twenty-five years than there was back in the 1970s, when inflation got out of control in the face of soaring energy prices. If it's true that there's only a very small passthrough of higher energy prices to inflation currently, then that raises the concern that something more fundamental is pushing up inflation. Unfortunately, at this point, it's too soon to untangle these alternative interpretations.

If you look even today at the futures markets, the futures markets predict energy prices will be relatively flat over the next couple of years. If you take that forecast as correct, then today's core inflation rate is actually a reasonable forecast of tomorrow's total inflation rate if energy prices do, in fact, flatten out as the markets seem to expect.

With respect to wages, there are alternative measures of wages that give somewhat different answers, but I agree that, for example, that average hourly earnings for production workers as measured by the payroll survey has not shown real gains.  And one of the key problems there, it's important to note, is, in fact, the increase in energy prices. So what people get at the pay stub, they lose at the gas pump.

The increase in energy prices is clearly making the economy worse off, both in terms of real activity and in terms of inflation. There's no question about it.

Futures quotes imply that market participants expect petroleum prices to roughly stabilize in coming quarters; such an outcome would, over time, reduce one source of upward pressure on inflation.  However, expectations of a leveling out of oil prices have been consistently disappointed in recent years, and as the experience of the past week suggests, possible decreases in these and other commodity prices remain a risk to the inflation outlook.

And so this increase in energy prices and commodity prices certainly has been a significant contributor [to inflation]. And I think that we wouldn't really be talking about this now if energy prices were still $30 or $40 a barrel.

To the extent that the Fed's credibility is strong and people think that inflation will be low in the long term, when energy price increases hit, it causes a temporary burst of inflation. But if nobody expects it to continue, then it will just moderate away and we don't get into this pattern of having to raise rates a lot and getting into an inflationary situation.

But beginning around 2003, futures prices began moving up roughly in line with the rise in spot prices. Thus, unlike in earlier episodes, the significantly higher relative price of energy that we are now experiencing is expected to be relatively long lasting and thus will likely prompt more-significant adjustments by households and businesses over time.

In all likelihood, growth in the demand for energy will be tempered to some extent by continued improvements in energy efficiency which, in turn, will be stimulated by higher prices and ongoing concerns about the security of oil supplies. Such improvements are possible even without technological breakthroughs.

Today's proved reserve figures ignore not only the potential for new discoveries but also the likelihood that improved technologies and higher oil prices will increase the amount of oil that can be economically recovered.

Natural gas prices are likely to remain elevated for at least the coming few years. It is possible, however, that within a decade new supplies from previously untapped areas of North America could boost available output here, while imports of LNG will increase to more substantial levels as countries seek to bring their isolated natural gas reserves to market. Given time, these developments could serve to lower natural gas prices in the United States significantly.

The supply-demand fundamentals seem consistent with the view now taken by market participants that the days of persistently cheap oil and natural gas are likely behind us.

In the long run, higher energy prices are likely to reduce somewhat the productive capacity of the U.S. economy. That outcome would occur, for example, if high energy costs make businesses less willing to invest in new capital or cause some existing capital to become economically obsolete. All else being equal, these effects tend to restrain the growth of labor productivity, which in turn implies that real wages and profits will be lower than they otherwise would have been. Also, the higher cost of imported oil is likely to adversely affect our terms of trade; that is, Americans will have to sell more goods and services abroad to pay for a given quantity of oil and other imports. For the medium term at least, the higher bill for oil imports will increase the U.S. current account deficit, implying a greater need for foreign financing.

Under the assumption that energy prices do not move sharply higher from their already high levels, these long-run effects, though clearly negative, appear to be manageable.

It is a tribute to the underlying strength and resiliency of the U.S. economy that it has been able to perform well despite the drag from increased energy prices.