Inflation is Hotter Than Expected Again
Inflation is Hotter Than Expected Again
The consumer price index (CPI) and core CPI (which excludes food and energy) came in slightly hotter than expected this morning. The CPI rose 0.4% over the month, with year-over-year inflation rising to 3.2% from 3.1%. Core CPI also rose 0.4% over the month, falling to 3.8% from 3.9%.
Shelter and core services continue to push inflation up, and while goods price inflation has fallen back to where one would expect it to be under 2% overall inflation, it hasn’t fallen far enough to offset higher shelter and services price inflation.
Over the year, wages have risen 4.3% and prices have risen 3.2%, so workers are still coming out ahead, with 1.1% real wage growth, on average. Since February 2020, cumulative inflation has been 20.0%, wage growth for all workers has averaged 21.1%, and wage growth for non-managers has averaged 23.7%.
Between 2013 and 2019, workers became accustomed to wage growth exceeding inflation by around 1.4% a year. Had that continued, cumulative wage growth would now be 25.6%. Leisure and hospitality is the only sector where workers have seen their wages grow more.
The increase in core inflation will be a challenge for the Fed and make a rate cut in March, April/May, or June less likely, unless unemployment continues to edge upwards, as it has done recently, and reaches 4% or higher.
Standard Taylor Rules still put the optimal Federal Funds Rate at between 3.9% and 4.75%, below the actual current rate of 5.33%. Despite the fact that interest rates are currently restrictive, the Fed may be reluctant to make any cuts soon, concerned that markets could run away upon the news and financial conditions could end up far looser than where the Fed wants them to be.
The Fed’s recent rhetoric is largely to blame for the high likelihood that markets will overshoot, for two reasons. First, Fed leaders have made the decision to cut interest rates seem far more weighty than it need be. For example, Fed Chair Jerome Powell has said he needs more confidence before he can begin to make cuts. And Atlanta Fed President Raphael Bostik has said that the worst outcome would be for policymakers to lower rates and have to raise them again later.
Second, the Fed has spoken of rate cuts as a “process.” For example, Fed Chair Powell recently said, “If what we expect and what we're seeing - continued strong growth, strong labor market and continuing progress in bringing inflation down - if that happens, if the economy evolves over that path, then we do think that the process of carefully removing the restrictive stance of policy can and will begin over the course of this year.”
The impression those kinds of comments create is that the first cut would signal a regime change from a hiking process involving multiple consecutive hikes to a cutting process involving multiple consecutive cuts.
An alternative approach would be simply to say that one cut now is warranted given that current monetary policy is unnecessarily restrictive and that optimal policy right now is slightly lower, but could very well change, so that a hike, cut, or neither may be warranted at the following meeting.
A data-dependent Fed could promise to go meeting by meeting and hike or cut as needed, without bias in one direction or the other. At its meeting next week, the Fed would be advised to walk back its regime shift talk and reassert its flexibility, data dependence, and neutrality.
Take a closer look at the Consumer Price Index and Producer Price Index data through our dashboard of data visualizations
