The Internet Has Not Killed, and Will Not Kill, Inflation

June 21, 2017 2 comments

Every few years or so, this story goes around to great acclaim: inflation is dead, killed by the internet. Recently, we have been hearing this story again, quite loudly. The purchase of Whole Foods by Amazon helped bring commentaries like these to the fore:

Credit Suisse’s Varnholt Says Internet Killed Inflation” (Bloomberg)

Low U.S. Inflation? It’s Your Phone: BlackRock Bond Manager” (New York Times)

Amazon Deal for Whole Foods Casts Doubt on Fed’s 2% Inflation Goal” (Barron’s)

And the list goes on and on. These are some of the more-reputable outlets, and they simply misunderstand the whole phenomenon. This isn’t unusual; almost no one really understands inflation, partly because almost no one these days actually studies something that most people presume isn’t worth understanding. (But pardon my ranting digression.)

The internet has not killed, and will not kill, inflation.

In the late 1990s, the internet was having a much greater relative impact. We went from having essentially zero internet in 1995, to a vast array of businesses in 1999 – most of whom were busy transferring money from capital markets to consumers, by raising equity investments which were then use to subsidize money-losing businesses (see especially: Amazon). And inflation? Core CPI in 1999 was 1.9% (Median CPI was 2.03%).

“But there’s more internet now than there was then!” runs the natural objection. Yes, and the internet was dramatically more impactful in 2001 than it was in 1999. Indeed, as the penetration of the internet economy exploded further despite the recession of 2000-2001, core inflation rose to 2.8% (Median CPI topped out at 3.33%) by late 2001.

There is always more innovation happening, whether it’s the 1940s or the 2010s. Innovation is a relatively steady process on the economy as a whole, but very dramatic on parts of the economy – and we tend to fixate on these parts. But there is no evidence that Uber is any more transformative now than Amazon was in the late 1990s. No evidence that Amazon now is any more transformative than just-in-time manufacturing was in the 1980s (in the US). And so on.

“But the internet and mobile technology pervades more of society!” Really? More of society than the J-I-T manufacturing innovation? More of society than airlines and telephones, both of which were de-regulated/de-monopolized in the 1980s? More of society than personal computers did in the 1990s? We all like to think we are living in unique times full of wonder and groundbreaking innovation. But here’s the thing: we always are.

“But Amazon bought Whole Foods and disrupted the whole food industry! How can you be more pervasive than food?” It remains to be seen whether Amazon is able to do what Webvan and FreshDirect and other food delivery services have been unable to do, and that is to remake the entire delivery chain for food at home. But let’s suppose this is true. Food at home is only 7.9% of the consumption basket, which is arguably less than the part of society that Amazon has already reorganized. Moreover, it’s a highly competitive part of society, with margins that are already pretty thin. How much fat is there to be cut out by Amazon’s efficiency? Some, presumably. But after Amazon makes some kind of profit on this improvement, how much of a decline in food prices could we see? Five percent, over five years? 10%? If Amazon’s “internetification” of the food-at-home industry resulted in a 10% decline in prices of everything we buy at the grocery store, over five years, that 2% per year would knock a whopping 0.16% off of headline inflation. Be still, my heart.

“In any event, this signals that competition is getting ever-more-aggressive.” No doubt, though it is ever so. But here is the big confusion that goes beyond all of the objections I’ve previously enumerated: microeconomic effects cause changes in relative prices; macroeconomics is responsible for changes in the overall price level. Competitive pressures in grocery may keep food prices down 10% relative to price increases in the rest of the economy. But suppose the money supply doubles, and all prices rise 100%, but food prices only rise 90%. Then you have your 10% relative deflation but prices overall still rose by a lot. If the governments of the world flood economies with money, no amount of competition will keep prices from rising. This is why there wasn’t deflation in 2010, despite a massive economic contraction in the global financial crisis and concomitant cutthroat competition for scarce customers in many industries.

So inflation isn’t dead, and neither is this myth. It will come back again in a few years – I am sure of it.

Housing Disinflation Isn’t Happening Yet

June 19, 2017 8 comments

Before everyone gets too animated about the decline in core inflation, with calls for central banks to put the brakes on rate normalization, let’s realize that the main drivers of lower inflation over the last few months – zero rise in core CPI over three months! – are not sustainable. I’ve written previously about the telecommunications-inflation glitch that is a one-off effect. Wireless telephone services fell -1.38% month-over-month in February (not seasonally adjusted), -6.94% in March, and -1.73% in April. In May, the decline was -0.06%. Here is a chart, courtesy of Bloomberg, showing the year-to-date percentage declines for the last decade. The three lines at top show the high, average, and low change over the prior decade, so you can see the general deflationary trend in wireless telecom services and the historical outliers in both directions. The orange line is the year-to-date percentage change. Again, the point here is that we cannot expect this component of inflation to deliver a similar drag in the future.

The other main drag comes from a less-dramatic decline in a much-larger component: Owners’ Equivalent Rent. In this month’s CPI tweetstorm, I pointed out that this decline is mostly just returning the OER trend to something closer to our model (see chart below), but many observers (who don’t have such a model) have seen this as a precursor to a more-significant decline in rents.

This is actually a much more-important question than the dramatic, and easy-to-diagnose, issue of wireless telecommunications, because OER is a ponderous category. You can’t get high inflation without OER rising, and you can’t get deflation or even significant disinflation without OER declining. It’s just too big. So what are the prospects for OER rolling over?

Here are two reasons that I think it’s very unlikely that this is a precursor to a significant decline in housing inflation.

First, while I understand that rent increases in some parts of the country are moderating, they are always moderating somewhere in the country. Owners’ Equivalent Rent tends to parallel primary rents (“Rent of Primary Residence,” which measures the actual price of a rental unit as opposed to implied rent of an owner-occupied dwelling) reasonably well, and when home prices are rising it tends to imply that rents – as the price of a substitute, at least for the consumption part of home prices – are also rising. (A house is both an investment asset and a consumption good, and the BLS’s method for separating these two components of a home recognizes that the consumption component should look a lot like the substitute). And the fact is that Primary Rents are not (yet?) decelerating much (see chart, source Bloomberg).

Yes, I understand and agree that home prices are already too high to be sustainable in the long run. Either incomes need to outpace home prices for a while, or home prices need to decline again, or we need to become accustomed to housing becoming a permanently larger part of our consumption and asset mix (see chart, source Enduring Investments).

But is that going to happen? Well, here are two charts that should make you somewhat skeptical that at least on the supply side we are about to see a decline in home prices. First, here is the index of Housing Starts, which last month took a nasty drop. Even without the nasty drop, though, notice that the level of starts was not only far below the level of the last few peaks in the housing market, but actually not far above the troughs reached in the recessions of the mid-1970s, early 1980s, and early 1990s. The only reason the current level of starts looks high is because homebuilders basically stopped building for a few years after the housing bubble.

Homebuilders stopped building because there was suddenly plenty of inventory on the market! In the immediate aftermath of the bubble, the homes that were available for sale were often distressed sellers and as prices rose, more and more of the so-called “shadow inventory” (people who wanted to sell, but were now underwater and couldn’t sell) was freed. This kept a lid on overall housing starts, but the net effect is that even now, when most of that shadow inventory has presumably been liquidated (a decade after the bubble and at new price highs), the inventory of existing homes available for sale has become and has remained quite low (see chart, source Bloomberg).

The supply side, then, doesn’t seem to offer much cause to expect home prices to moderate, even if their prices are relatively high. I’d want to see an overreaction of builders, adding to supply, before I’d worry too much about another bust, and we haven’t seen that yet. So we have to turn to the demand side if we expect home prices to decline. On that side of the coin, there are two arguments I sometimes hear: 1) household formation in the era of the Millennial is low, or 2) households don’t buy as much housing as they used to.

There is no evidence that household formation has slowed in recent years. As the chart below (source Bloomberg) shows, household formation has been rising since 2009 or so, and is back in line with long-term trends. Millennials may have weird notions of home life (I don’t judge!), but they still form households of their own.

As for the second point there…notice that I phrased the question as whether Millennials are buying less housing, rather than as buying fewer homes. I think it’s plausible to suggest that Millennials might demand fewer homes to buy, but it’s hard to imagine that they’re neither going to rent nor buy homes – and if they do either, they are demanding shelter as a consumption item. It just becomes a question of whether they’re demanding rental housing or owned housing.

The upshot of this is that there’s no sign yet of a true ebbing in housing/rental inflation. And until there is, there’s scant need to fear a disinflationary trend taking hold.

Summary of My Post-CPI Tweets (June 2017)

June 14, 2017 1 comment

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Below is a summary of my post-CPI tweets. You can (and should!) follow me @inflation_guy or sign up for email updates to my occasional articles here. Investors with interests in this area be sure to stop by Enduring Investments. Plus…buy my book about money and inflation. The title of the book is What’s Wrong with Money? The Biggest Bubble of All; order from Amazon here.

  • CPI day! People looking past CPI at 8:30 but…not me!
  • Last 2 CPI prints were very low. The first was a 1-off wireless telecom debacle, read about that effect here.
  • Last month’s CPI weakness was in core services – in medical care & rent of shelter. Harder to ignore but unlikely to be in freefall.
  • Consensus core CPI is for another weak print, only 0.16% or so. Economists believe disinflation is upon us. I think that’s premature.
  • Last May’s core CPI was 0.21%, so that’s the hurdle to get acceleration in y/y figures.
  • WOW! At this rate I will have to change my Twitter handle. Each month is more shocking. m/m core 0.1%, not sure on the rounding yet.
  • 06% m/m on core CPI, so again incredibly weak. y/y at 1.74%, producing the scary optic of a drop from 1.9% to 1.7% on the rounded core
  • This is an amazing chart.

  • waiting for the data dump, but housing, medical care, apparel subcomponents all decelerated.
  • So the upshot is…core prices overall are unchanged from February. That’s right, 0% core inflation over 3 months.
  • Yes, it was telecom that made 0% possible and that won’t be repeated. But still striking. Here is the index itself.

  • So Dec, Jan, Feb core inflation is rising at a 3% annualized pace. next 3 months, zero. That’s not supposed to happen to core.
  • Breakdown now. In Housing, Primary rents remain solid at 3.85% y/y, unch. But Owners’ Equiv plunged (for it) to 3.25% from 3.39%.
  • Picture of OER: this is a dramatic shift in this index, and frankly hard to explain given home price increases.

  • Medical Care decelerated to 2.66% from 2.95%. But w/in MC, drugs rose to 3.34% vs 2.62%. Professional svcs flopped to 1.00% from 1.58%
  • CPI/Med Care/Professional Services, y/y. Doctors suddenly don’t need to be paid.

  • Apparel had been at 0.45% y/y, fell to -0.94%.
  • The Fed funds rate is too low and almost certainly rises today. But with a sudden zig in CPI…it wouldn’t SHOCK me if they delayed.
  • Back to housing – we’ve believed OER was ahead of itself for awhile. Adjustment is just really sudden.

  • in the biggest-pieces breakdown, core goods is at -0.8% y/y while core services is down to 2.6%.
  • US$’s recent decline (2y change in trade-weighted $ is only +7%) means core goods are losing the downward pressure of last few yrs.
  • But the dollar’s effect is lagged significantly. We’re still seeing effect of prior strength.

  • Here are the four pieces of CPI, most volatile to least. Starting with Food & Energy (21% of CPI)

  • Core goods (33%)

  • Core services less Rent of Shelter. Yipe!

  • Got my percentages wrong. Food & Energy is 21%. Core goods is 19%, core services less ROS is 27%. Rent of Shelter is 33%.
  • Rent of Shelter. 27% of overall CPI. I still find it hard to believe this is going to collapse, but as I tweeted earlier it was ahead.

  • My early estimate of Median CPI is 0.18% m/m, 2.28% y/y down from 2.37%.
  • One thing to keep in mind is that in June and July we drop off 0.15% and 0.13% from y/y core. So core should bounce back some. (??)
  • I mean, we can’t average 0% core going forward, right?!? Otherwise @TheStalwart and @adsteel will never have me on again.
  • core ex-shelter down to 0.59% y/y. Lowest since JANUARY 2004!

  • Interestingly, the weight of categories inflating more than 3% remains high. The pullback is in the far left tail.

Well, it’s getting harder to put lipstick on this pig. The telecom-induced drop of a couple of months ago was clearly a one-off. But the slowdown in owners’-equivalent rents is merely putting it back in line with our model, and so it’s hard to believe that’s going to be reversed. And I’m really, really skeptical that there has been an abrupt collapse in the rate of increase of doctors’ wages.

Except, what if there is a shift happening from higher-priced doctors to lower-priced doctors? This sort of compositional shift happens all the time in the data and it’s devilishly hard to tease out – for example, in the Existing Home Sales report it is sometimes difficult to tell if a change in home prices is coming from a broad change in home prices, or because more high-priced or low-priced homes are being sold this month, skewing the average. So this kind of composition shift is possible, in which case each individual doctor could see his wages increasing while the average declines due to the composition effect. I have no idea if this is what is happening – I’m just making the point that if it is, then this effect could be more persistent and not the one-off that the telecom change was. However, I am skeptical.

I do not believe that we have seen a turn in the inflation cycle. With money growth persistently above 6%, it would take a further collapse in money velocity from already-record-low levels to get that to happen. Forget about the micro question, about whether movements in this index or that index look like they’re rolling over. The macro question is that it is hard to get disinflation if there’s too much money sloshing around, whether or not the economy is growing.

But that being said, the Fed doesn’t necessarily believe that. There is a tendency to believe one’s own fable, and the fable the FOMC tells itself is that raising interest rates causes growth to slow and inflation to decline. Although the effect is spurious, we are currently seeing somewhat slower growth (for example, in the recent slowing of payrolls) and we are seeing lower core inflation. It is a low hurdle for the Fed to believe that their policy moves are an important part of the cause of these effects. Of course, they’re not – the tiny changes the FOMC has made in the overnight rate, even if it had been propagated to significant changes in longer rates – which it hasn’t been – or resulted in slower month growth – it hasn’t, especially if you look globally – would not have had much effect at all. But that won’t stop them from thinking so. Ergo, the chance that the Fed skips today’s meeting, while small, are non-zero. And there is a much greater chance that the “dot plot” shifts lower as dovish members of the Fed (and that’s most of them) back away from the feeble pace of increases they’d been anticipating.

What’s Wrong With the Long Run?

June 6, 2017 2 comments

In my last article, I talked about the importance of getting clients to focus on their progress towards a long-term goal rather than on near-term performance. This is to help the clients, not to help the manager, but decreasing performance myopia is also a good thing for the manager. In addition to the obvious reasons this is true – less client turnover means fewer frictional costs for the manager – there is the less-obvious effect that it has on manager behavior. If our clients aren’t demanding that we chase a hot trend or hot stock or hot sector or hot asset class, it means they are also not rewarding those behaviors…and that, in turn, means that the manager can also focus on the long term, to the benefit of the client.

Focusing on progress towards a long-term goal can, unfortunately, introduce other problems. For one thing, it is hard to compare managers on the basis of how their existing clients are progressing successfully towards long-term goals. It is very easy to compare managers on the basis of the historical performance of client portfolios, and indeed both regulators and industry organizations like the CFA Institute have detailed rules about how client performance should be presented to as to make them more easily comparable. So, if my clients are making excellent progress towards their long-term goals but have “underperformed” this year because they didn’t own Tesla, the prospective client who is comparing our performance will probably go to the manager who is invested in that money-losing cult of personality.

Another problem with focusing on the long run is that there are lots of ways to make it appear as if progress is being made, or that the client is doing better than they really are, by tweaking assumptions. An unscrupulous manager could, for example, assume that stocks are going to have a return equal to their prior 5-year return (which right now is pretty darn good), but if the stock market begins to decline the manager could change his mind and instead decide that a 7% nominal return is appropriate. If we are basically trained hamsters pushing the levers that get us the treat from our clients, then there is an incentive to show them good news. In short, it’s harder to disguise adverse changes in current portfolio value than it is to disguise adverse changes in client progress towards a goal.

As an example of this behavior, consider the long-recognized problem that exists in the pension fund industry. A pension fund’s funded status depends importantly on the rate of return it assumes on the assets which are intended to provide for the fund’s future liabilities. And those assumptions have been ridiculously high for years. There is a great recent article by Pension & Investments Online (“Investment return assumptions of public pension funds”) that illustrates the point. Since 2001, the average return assumptions of pension plans has declined from 8% to 7.6%, despite the fact that asset markets are higher now than they were in 2001 (some of them, such as bonds, drastically so). In 2015 pension funds assumed, on average, a 9.7% return on US equities and a 15.2% return (!!) on real estate. Clearly, the models that pension funds use – or hire similarly-incentivized consultants to create – are not consistent with what we know about how markets really behave. But they’re very convenient for showing progress towards being fully funded.

So if a manager wants to help clients focus on the long-term – which he/she should – then he or she needs to use models that are conservative, and that do not get tweaked favorably over time. One way to do that is to employ a third-person analyst that deploys arm’s-length projections, and ideally one who is compensated over time on the basis of the long-term accuracy of the projections…but, since that sort of analytical contract is not generally available, a minimum requirement should be that the manager transparently disclose to clients the asset-class projections currently being used, and the method for generating them.

It is probably self-serving to point this out, but in that vein a manager who frequently exposes his thought processes to the blogosphere, in books, and in speeches is probably a safer bet than a manager who forwards you his company’s latest article on stocks for the long run.

Categories: Investing

The Bias in Investor Perceptions

June 1, 2017 3 comments

We can do the math. We can, until we are blue in the face, explain to investors why 10% returns in the equity market…even 7% returns…are unlikely going forward. We can show the picture below, sourced from data from Robert J Shiller, illustrating that high starting cyclically-adjusted PE ratios are associated with low future returns (the current level of the CAPE is about 29.5), and admonish that higher levels of the CAPE have been seen on only a few occasions that we all agree ex-post were bubbles.

We can do all this, and yet investors still anticipate that 10-20% returns will be delivered by equities going forward. The pessimistic ones think that only 5-10% is what we will see, ‘in line with historical returns’ that are as high as that of course only because our measurement ends at the current high levels. None of our arguments are new, and research illustrating that investors in the main do not get out just in time to avoid the bear market is hopelessly general because each individual enjoys his or her personal fable: “yeah, but I’m not that guy.”

They can be forgiven, perhaps, their poor memories because, after all, the bad events have been few and far between (at least, the bad events in terms of market returns) for a long time. The chart below shows the rolling 52-week returns of the S&P 500, before dividends, since 1979.

The two financial crises in the 2000s stand out for their deeply negative returns, and contrast with the more-frequent, but shallower, bear markets of the 1980s (of course, there weren’t any bear markets in the 1990s!). The compounded nominal price return since the end of 1978 until the end of last week was 8.76%.

But that’s not how people remember returns. Normal people do not take the ending point, divide by the starting point, and raise to the power of 1/(number of years). Perception is influenced by recency. Over the past five years, if you had asked each week “what has the return of the stock market been over the last year?” the answers would have averaged 12.0%. That’s recency. Perception also weights returns by frequency of observation – and over the 38 years covered by this chart, the average rolling 12-month return has been 9.9%.

So you can understand why individual investors resist when we tell them “the long run return of stocks has been about 7%” or admonish them to be careful about current high prices. In their minds, “stocks have been rising about 10-12% per year” for nearly four decades.

Selective memory also plays a part. When we tell stories about why these events occurred, and the story doesn’t include “we started from very high prices,” we excuse them as exceptions. The bear market in the early 2000s was “the popping of the Internet bubble,” and the one in the late 2000s was “the global financial crisis caused by greedy banks.” So the mind tends to dismiss these exceptions, or weight them less. This is where the “but I will get out next time” fantasy comes in – it justifies this mental calculation. But of course, if we eliminate the “exceptions” when stocks went down, the annual returns are even more remarkable. Since 1979, the rolling 12-month return conditioned on it being positive averaged 16.6%.

These are all irrational, but they are part of perception. From a practitioner’s standpoint, these are inconvenient and the industry has worked for a long time to try and educate investors away from these perceptions since otherwise clients only want to hold stocks. But we can’t change how people think, and how they perceive market returns.

This problem has gotten worse since the early 1990s, because of the accessibility of information about market returns. The Financial News Network was launched in 1981, but it wasn’t until CNBC’s launch in 1989, combined with Chairman Greenspan’s decision to open the Fed’s kimono a few years later, that it became very easy to “check the market.” And, since perception of returns is weighted by the number of observations, more frequent observations of positive numbers has increased the expectations of investors when it comes to stock market returns. Some of the lower-quality advisors actually make the problem worse, by calling clients more often when markets are up than when they are down.

I think education is nice, and we as practitioners should of course try to convey to clients proper expectations for returns. But we can’t beat these cognitive errors; instead, what we should be trying to do is to avoid the focus on recent returns and instead present the client with their progress towards a very long-term goal (see illustration below, which is from something we’re designing), such as a particular sort of goal in retirement (“I’d like to have enough to take two major trips every year.”)

This unfortunately can lead to other games, which I will talk about next week, but it also allows us to manage wealth in a way that beats the outcomes offered by Modern Portfolio Theory’s focus on near-term mean-variance optimization. Now, if only we can persuade clients to do it!

Categories: Investing, Stock Market, Theory

How the BLS Methodology for Wireless Plans Exaggerated a Small Effect

NOTE: The following article appeared in our quarterly inflation outlook, distributed one week ago to clients. We thought it might be interesting to a more general audience.


…The deceleration in medical care inflation is not the queerest change in price inflation we have seen in the last quarter. The prize there clearly goes to inflation in wireless telephone services. In the March CPI (released in April), core inflation overall declined -0.12% – the biggest monthly drop since 1982. But a large part of the blame for that curious result, which was more than a quarter percent below expectations, fell on the single category of wireless telephone services.

The chart above shows the year/year change in wireless telephone services inflation. The current y/y rate is nearly -13%, but that isn’t the striking part. Wireless telephony is generally in a state of deflation. But the one-month change of 7%, in a category that constitutes 2.2% or so of consumption in core categories, trimmed one-sixth of a percentage point from the core number. The 7% single-month decline is completely unprecedented and happened because of the way that the BLS samples wireless telephone plans and how it accounts for the value of changes in the components of these plans. In short, the BLS method severely exaggerated a small effect.

How the BLS Methodology for Wireless Plans Exaggerated a Small Effect

In sampling wireless telephone plans the BLS does not take into account the fact that, unlike with many products, telephone plans are consumed continuously but at a pre-set price that is different for each consumer based on the plan that consumer previously bought. If you go to the store and buy Pop-Tarts, the price you pay is the same as the price that everyone else pays. So, the BLS can easily figure out how much of the average person’s consumption consists of Pop-Tarts, and track the price of Pop-Tarts, and arrive at a good estimate of how the cost of the average person’s consumption basket changed as a result of changes in the price of Pop-Tarts. Moreover, if the size of the box of Pop-Tarts changes, or if Pop-Tarts are replaced by Pop-Tasties (which, let us suppose, are like Pop-Tarts but are sold by a different company and are slightly different), the BLS analyst can make an intelligent substitution based either on comparing the price of Tarts and Tosties when they overlapped, or by comparing the characteristics of Tarts and Tosties and adjusting the price series for Toaster Pastries to reflect the new items on sale.

Contrariwise, with wireless telephony only people taking out new contracts are paying the new prices. However, the BLS doesn’t have a way to survey consumers generally to find out what the average consumer is currently paying and what the average plan looks like. Instead, they survey various sales outlets (most of this is done online) and see what plans are being offered to consumers. They adjust the price of the wireless telephony series based on changes in these plans over time…but notice that this will tend to exaggerate moves, since it effectively implies that everyone rolls over their wireless contracts every month into a new plan.

Ordinarily, this is not a crucial problem; in March, however, a number of carriers introduced unlimited data plans. Although the BLS doesn’t specifically evaluate the price per gigabyte of data, they effectively do something similar when they compare the old plan offered (which had some amount of data at a fixed price) to the new plan offered (which has unlimited data). “Infinity gigabytes” is clearly a lot better than “four gigabytes,” but it is difficult to say how much better when most people will not immediately consume dramatically more data when moving to the new plan.

So in March, the BLS series for wireless telephony had two problems. First, the introduction of a number of new wireless data plans caused the quality of the sampled plans to look much better for a similar price. Second, and more importantly: even though the price wars in telecom didn’t affect very many people – only those who were changing their plans that month – the BLS methodology acted as if the average consumer moved to the new plan, and that greatly exaggerated the effect. In short, the BLS series for wireless telephone services vastly overstated the deflation experienced this quarter – but the tradeoff is that it will understate the inflation experienced in the future, as users gradually migrate to unlimited data plans.

Categories: Causes of Inflation

Summary of My Post-CPI Tweets (May 2017)

May 12, 2017 4 comments

Below is a summary of my post-CPI tweets. You can (and should!) follow me @inflation_guy or sign up for email updates to my occasional articles here. Investors with interests in this area be sure to stop by Enduring Investments. Plus…buy my book about money and inflation. The title of the book is What’s Wrong with Money? The Biggest Bubble of All; order from Amazon here.

This month, I am making sure to include my comments before the actual number, since my suspicions about the upside risk were exquisitely wrong. This is why you shouldn’t put a lot of weight on monthly figures, folks!

  • Step right up ladies and gents. The CPI circus is about to commence.
  • Last month’s circus crazier than usual, including an unprecedented (and inexplicable) 11+% drop in wireless telecom services. [Editor’s note: it was only 7%. I corrected this in a later tweet]
  • This caused more diversion in core and median CPI. Median (better measure) remains steady at 2.5%.

  • PPI y’day was broadly strong. I don’t pay much attention to PPI but it does create upside risk.
  • Also note that European inflation saw a drop and then big jump from the early Easter. Not sure we have an analog but…
  • Point is that consensus is for 0.17% or so. There’s a lot of upside risk to that number I think.
  • Over next few months, core will rise regardless as we drop off 0.18, 0.21, 0.15, and 0.13. Easy hurdles.
  • Wow! Core only 0.1% again! Even a low 0.1%…0.07%.
  • I cannot WAIT to get a look at the breakdown.
  • ..Medical Care ebbed from 3.5% y/y to 3.0% y/y, wanna look inside that one. Recreation and yes, communication also soft.
  • Core drops to 1.89% y/y. Lowest since late 2015. Of course, remember that median is a better measure – we’ll see that later.
  • [I retweeted this, look at Matthew’s yellow line here]

  • Wireless telecom services fell another 1.7%. Incidentally I earlier said 11% m/m was last mo…it was only 7% m/m, the 11% decline was y/y.
  • so wireless telecom services now down 12.9% y/y, 9.9% over the last 3 months. This really warrants explanation from BLS.
  • In Medical Care, Medical Drugs fell to 2.62% from 3.97% y/y. Professional svcs, which is twice the weight, fell to 1.58% from 2.50%.
  • Health insurance fell to 2.72% vs 3.34%. Lowest since 2015.
  • Medical decel seems implausible but remember is a rate of change measure. So rising from high level, but at slower rate, is lower CPI.
  • Let’s get to housing. Primary rents 3.84% vs 3.88%. OER fell to 3.39% from 3.49%, that’s a big drop for 25% of the index.
  • So overall, Housing rose from 3.1% to 3.2%, but that’s on the strength of a 1% rise in household energy y/y.
  • This is OER. The decline is actually welcome – it had been running well ahead of even our optimistic models.

  • Core goods steady at -0.6% y/y. So the deceleration in last two months is all from core services, from 3.1% to 2.9% to 2.7%.
  • I don’t see that slowdown in core services as sustainable unless housing rolls over…
  • …and I don’t see that happening while home prices keep rising at 6-7% as they have been.
  • Weakness in services outside of housing s/b taken with grain of salt though…a lot of that is wireless services!
  • But doing core-less-housing-and-wireless is cheating. We take out housing to look @ the wiggly stuff. Can’t also take out wiggly stuff.
  • OK, four-pieces CPI look. From most-wiggly to least. They tell the story. Food & Energy:

  • Core goods (about 19% of CPI)

  • Core services less rent-of-shelter (26% of CPI). <<BOOM>>

  • And Rent of Shelter (33.3%)

  • And within core services less ROS, a lot of that is wireless but medical care ebbing is also in there. That’s the story of this month.
  • On Median…I have 0.13% m/m, but the median category is an OER piece and the BLS seasonally adjusts those.
  • But my best guess on median is 0.13%, dropping y/y to 2.4%.
  • Maybe I’m wrong and inflation pressures are ebbing after all. You know who else is thinking that? Janet Yellen.
  • Forgot to tweet this chart earlier.

  • Also interesting. Core<median b/c of big weight in left tail. But also starting to be more weight in general left of mode.

  • Last routine chart: the weight of categories inflating faster than 3% is still almost half. It’s that left tail draggin’ stuff down.

It was easy to ignore last month’s negative core print. It was obviously tied to a ridiculous (and still not explained by the BLS) plummet in the price of wireless telecommunications services. A 7% fall, nationwide, in one month, that no one seems to have noticed, is something the BLS really needs to comment on (my best guess is that some data plans got uncapped, and the BLS assumed a large increase in the data taken at zero dollars and therefore a big drop in the price per gig. That’s effectively a hedonic adjustment, and a not unreasonable one if you really saw a dramatic increase in data being taken. Since I have yet to talk to anyone who saw anything that resembled this huge effect, I remain skeptical.) But in any event, it was easy to ignore March’s number released in April.

Now we have two months in a row, and while wireless telecom contributed this month as well, there was also softness in medical care and in owner’s equivalent rent. That’s harder to ignore. And while median CPI was steady after last month’s debacle, it should downtick today.

I don’t think inflation is done rising; I think this is just a pause. But as I said above, I am sure that the decline in core CPI and core PCE will not go unremarked at the next FOMC meeting – the one where they are supposed to hike rates again. I think we’ll learn a lot about the stomach the Fed has for continuing the rate normalization regime by whether they go through with the next hike.

Categories: CPI, Tweet Summary
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