ACTV - U.S. CPI: A Tale Of The Forest And The Trees?
Summary
- The near-instantaneous analysis of January’s highly anticipated Consumer Price Index (CPI) report was impressive.
- It is questionable whether the uncertainties in the inflation outlook can be meaningfully reduced by looking at the individual trees in the inflation forest.
- As for the overall inflation forest, the January print did little to alter the perspective of rapid disinflation.
By Francis A. Scotland, Director of Global Macro Research
There is no longer disagreement that inflation has peaked. The question is the profile of its decline. Will inflation drop to or below the Federal Reserve’s target? Or will it prove to be stickier and level out in the 3-4% range?
The near-instantaneous analysis of January’s highly anticipated Consumer Price Index ((CPI)) report was impressive. Generally, the report was in line with consensus expectations. However, analysts were quick to point out some lessening in the pace of core goods disinflation despite falling used car prices and an actual pickup in core goods inflation if used car prices are excluded from the index. Service inflation remains firm due to housing inflation, but core services excluding owners’ equivalent rent (OER) and rents also was up 0.36%, which equates to a 4.4% seasonally adjusted annual rate (SAAR). Analysts calculated that by removing airfares and health insurance, the residual increases to 0.55% (6.8% SAAR). The not-surprising conclusion is that when you take out the things that went down, the average for the remaining items increases. The judgement call boils down to how fast the rental component mean-reverts lower and becomes more in line with a housing market where prices are now falling. And what happens to the non-rent service and goods components—in other words, everything else—in the meantime. The takeaway after the January report from most analysts seems to be higher and stickier inflation for longer. Perhaps, but that point of view may be missing the forest for the trees.
It is questionable whether the uncertainties in the inflation outlook can be meaningfully reduced by looking at the individual trees in the inflation forest. Forecasting inflation is hard at the best of times. Month-to-month changes in the CPI tend to be volatile. Currently, these readings are even more unpredictable than in the past; there is no reason to expect the line items feeding the aggregate to be less so. The current environment seems overwhelmingly complicated by the churning taking place inside a normalizing economy in which some sectors, like housing, are in recession while others, like the labor market, are booming. Add to that new seasonal adjustment factors and new weightings for the CPI basket. Looking at inflation from a bottom-up perspective seems fraught with challenges.
As for the overall inflation forest, the January print did little to alter the perspective of rapid disinflation. Ex-shelter core CPI has risen at about a 1.5% annualized rate over the past three months (see Chart 1).
Even more impressive is that overall CPI, excluding only shelter, peaked in January (see Chart 2). Based on this average, there has been no inflation since June of 2022. The big driver of course has been falling energy prices, a potential factor propping up spending.
The message from the inflation forest seems to be that mean reversion is well on its way, and much of the pace will be determined by the CPI’s treatment of housing inflation. The latter has reversed and is deflating based on recent trends. If anything, the Federal Reserve’s preoccupation with the lagged measurement of the housing inflation trend embedded in the CPI basket increases the probability inflation returns to or below target.
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Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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U.S. CPI: A Tale Of The Forest And The Trees?