Inflation in the US has now reached the 7.5%, the highest rate in 40 years, and far from the rate forecasted initially by the Fed. Some of the causes that have made the interest rates rose have been a strong consumer demand, and pandemic related supply shortages that continued to push prices up in January. As a consequence, Financial markets have started speculating for a strong 50 basis points interest rate increase from the Fed in next month’s meeting.
After the shocking news, we have received the first comments from the asset management industry, with the insights of the consequences for the markets of this historical moment. We have received some observations on the topic from Natixis IM, Monex Europe and PIMCO.
Garret Melson, Portfolio Manager Natixis IM Solutions
US CPI for January came in above expectations and ahead of market whispers that seemed to be positioning for a soft print in recent days. Pandemic-affected services detracted modestly from the print likely reflecting impacts of the Omicron variant, while vehicle related bottlenecks continued to place upward pressure on price gains, though at a slower pace.
The market latched onto what appeared to a continued broadening of inflationary pressures, but a closer look at the details reveals a similar story to what we have become accustomed to – labor constraints and supply chain pressures remain a key driver. Broad price gains remain inextricably linked to supply chain bottlenecks and labor constraints, particularly within transportation and warehousing, where a nearly 17% surge in costs filter into almost every goods item we consume.
Meanwhile, although rents ticked higher over the month, overall shelter costs have remained relatively stable over the past five months indicating little evidence of accelerating inflation pressure from these key categories. The January print also contains a few sources of potential noise. First many companies make annual price hikes in January, which may prove to simply be one-time upward adjustments. Second, the January print marks the first month of updated weights for the consumption basket which reflects consumer spending patterns from 2019-2020.
The result is a greater weight to goods at the expense of services which likely pressures near term prints higher. But as labor and goods supply bottlenecks continue to ease over the year, spending shifts back towards services, and base-effects kick in, this will likely be another contributor to inflation falling meaningfully over the course of the year. What matters is what’s priced in and we may have reached a peak in inflation fears just as inflation prints peak.
Simon Harvey, FX Market Analysis Director at Monex Europe
Updated weightings to January’s US CPI basket posed upside risks to today’s data, which ultimately transpired with headline CPI printing 0.2 percentage points (pp) above expectations at 7.5% YoY and the core measure beating expectations by 0.1pp with a print of 6% YoY.
With the new weightings based on expenditure data from 2020 and thus tilted towards pandemic consumption patterns, the impact of components that were highly inflationary due to increased demand has increased.
The weighing for private transportation services was increased by 1.1pp; used cars by 0.7pp; owners’ equivalent rent by 0.6pp; and new cars by 0.2pp. This reduced the Covid factor in the composition of the data as the moderation in prices in recreational and discretionary products, which usually occurs during Covid waves as demand reduces, is now more limited. This was highlighted by the drop in MoM inflation in commodities less food and energy from 1.2% MoM in December to 1% in January, with its impact on the monthly increase in headline inflation dropping from 0.25% to 0.22%.
Disregarding the technicalities that are weightings, the raw data shows some positives and negatives for the Federal Reserve. On the positive side, durable goods prices are now showing signs of moderating, highlighted by the fall in new and used car prices from 1.2% to 0% and 3.3% to 1.5% MoM respectively, while the impact from energy prices remained flat. The negative, however, is that inflationary pressures are broadening.
The fact that core inflation printed at 0.6% MoM again – marking the seventh time in the last ten months that it has increased by more than 0.5pp – while the previous drivers, rising new and used car prices, have moderated is telling. This, coupled with the fact that inflation printed marginally above expectations, resulted in a renewed sell-off in US Treasuries and a return of the broad dollar bid. Today’s CPI data has only emboldened expectations in short-term interest rate markets that the Fed will conduct a 50bps hike in March, despite February’s CPI data due for release prior to the March meeting.
Tiffany Wilding, North American Economist at PIMCO
Another firmer than expected inflation print, was driven by price hikes across a variety of retail goods. The price level of the core CPI advanced 0.6% m/m against our expectations for a more moderate (+0.3% m/m) lift. The miss relative to our forecast was mainly within the retail goods category.
However, this coupled with our expectation for a modest increase in core retail sales of 0.4% suggests that real consumption likely contracted again in January. As a result, although this print lifts our inflation forecasts – we are now projecting core CPI inflation to end 2022 running at 3.6% pace (vs 3.3% prior) – we are also lowering our 1Q real GDP forecast to 0.5% qoq saar vs 1% previously.
Regarding monetary policy, this print surely increases the probability of the Federal Reserve increasing rates by 50 basis points in March, and consistently the market pricing moved to a 50% probability. However, we still think the Fed would prefer to hike sequentially at every meeting, instead of a more abrupt adjustment. Furthermore, if the credit card data that we use to forecast retail sales turns out to be right, the combination of the CPI and retail sales prints suggests that the ability to pass on further price adjustments may be waning. Nevertheless, this print will surely concern the Fed, and makes it tough for them to push back against market pricing. At a minimum, today’s data solidifies our expectation that the Fed will likely begin hiking rates at a once per meeting pace.