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Summary of My Post-CPI Tweets

August 19, 2015 2 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. And sign up to receive notice when my book is published! The title of the book is What’s Wrong with Money?: The Biggest Bubble of All – and How to Invest with it in Mind, and if you would like to be on the notification list to receive an email when the book is published, simply send an email to WWWM@enduringinvestments.com.

  • core CPI+0.13%, softer than expected. Core y/y rose from 1.77% to 1.80% due to soft year-ago comparison.
  • Next month we drop off an 0.05%, so we will almost surely get a core uptick. Surprising we haven’t yet. Waiting for breakdn.
  • Both primary rents and owners’ equiv accelerated slightly, Which means core EX HOUSING was actually slightly down m/m
  • core services rose to 2.6% (mostly on housing); core goods fell to -0.5% from -0.4% y/y. Same story overall.
  • Apparel accelerated to -1.64% from -1.85% y/y. Story for years in apparel was deflation; in 2011-12 prices rose>>
  • >>and looked like return to pre-90s rate of rise. Then it flattened off, and has been declining again.
  • Apparel could well be a dollar story now – it’s almost all made overseas, almost no domestic competition so dollar matters.
  • our proxy for core commodities is apparel + cars + med care commodities. all 3 decelerated. Cars went from +0.5% to 0.0% y/y.
  • sorry, Apparel actually ACCELERATED to -1.6% from -1.9%, but still negative.
  • airfares not really a story. -5.6% y/y vs -5.2% y/y. The NSA number dropped but it always drops in late summer. [Ed note: see chart below]
  • airfares was -8.5%, but it was -8.1% last july, -2.9% in 2013, -2.6% in 2012…no story there. didn’t affect core meaningfully.
  • Primary rents 3.56% from 3.53%. OEW 3.00% from 2.95%. Both will continue to rise.
  • Lodging away from home also rebounded to 2.9% y/y after a one-off plunge to 0.8% y/y last month. Household energy of course down.
  • Transportation accelerated (-6.6% y/y vs -6.9%) on small motor fuel recovery. btw, airline fares are only 0.7% of CPI, so 0.9% of core.
  • Med Care: goods were dn (drugs 3.2% vs 3.4%,equipment -0.9% vs 0.0%) but prof services up (2.1% vs 1.8%),hospital svcs dn (3.2% vs 3.5%)
  • Health insurance only +0.9% y/y vs 0.7%, but more expenditures out-of-pocket under the ACA so higher infl for those categories hurts.
  • Median (due out later) might only be +0.1% this month. I have it cuffed at 0.15% but I don’t seasonally-adjust the housing sub-components.
  • Last yr Median was +0.17% m/m, so best guess is it roughly holds steady at 2.3%.
  • I don’t see how the Fed embarks on a meaningful tightening in Sep, with global economy weaker than it has been in a couple yrs.
  • Median inflation and growth plenty strong enough to “normalize” rates but that’s not a new story.
  • I’ve been saying they should tighten for a few years but not sure why they would NOW if they didn’t in 2011.
  • But Fed doesn’t use common sense or monetarist models.It’s all DSGE;who knows what those models are saying?Depends how they calibrated.
  • FWIW our OER models diverge here. Our nominal model says pressures on core start to ebb in a few mo; our real model predicts more rise.
  • I like the real model as it makes mose sense…but it’s not tested in a real upswing.
  • US #Inflation mkt pricing: 2015 0.8%;2016 0.7%;then 1.6%, 1.7%, 1.8%, 1.9%, 2.0%, 2.1%, 2.2%, 2.3%, & 2025:2.2%.
  • …so inflation market doesn’t see inflation at the Fed’s target (about 2.2% on CPI vs 2.0% on PCE) until 2023.
  • The market is not CORRECT about that, but another reason the Fed can defer tightening if they want to. And they have always wanted to.

First, let’s start with the airfares chart. One of the early headlines was that airfares plunged by the most since some long-ago year, which held down core. Well, here is the chart of airfares, non-seasonally adjusted. You tell me whether this is unusual to have airfares fall in July.

airfaresNSA

Because this is part of a normal seasonal pattern, the year-on-year figure was only slightly lower, as I note above. And airfares are a tiny part of CPI, less than 1% of the core. This is not a story.

More important will be the median CPI. This is a much better measure of the central tendency of prices than headline or core, both of which (as averages) can be skewed by a few categories having outsized moves. Median inflation has been ticking higher (see chart below) but will probably go sideways this month.

medcpi

Finally, the most important chart. There are lots of ways to model housing. If you model rents as lagged versions of the FHFA Home Price Index, or Existing Home Sales median prices, then you get one model and that model suggests that rents should begin to moderate over the next 6-12 months. Not that they will decelerate markedly, but that they will stop accelerating and therefore stop being the driving force pushing core CPI higher. But if you use those models, you have to recognize that you are calibrating over a period of very slow inflation, so that you are effectively ignoring the knock-on effect of higher inflation on rents. That is, if core inflation is around 2% and rents are 3%, then if core inflation rises to 5% you wouldn’t expect rents to be at 3%. So, you need to use a model that recognizes the interrelationship between these variables. And that sort of model implies that rents will continue to climb. Both models of Owners’ Equivalent Rent are shown in the chart below. I prefer the “real” model to the “nom” model, but we don’t know the right answer yet.

twomodels

Even if OER moderates it doesn’t mean that CPI will stop rising; it just means that the story will stop being all about rents. Core goods still have a long ways to go to normalize, and that might be the next story. But for now, I am still focused on rents.

As I said, I really don’t see how the Fed can think about hiking rates in September based on the data we have seen recently. Yes, inflation is on the border of being an issue, but that has been true for a long time. In 2011, there was plenty of growth and while high rates would not have been warranted, it is hard to argue that normal rates were not called for. And yet, we got QE and more QE. This will end up being the biggest central bank error in decades, regardless of what the Fed does in September. I doubt they will hike, and if they do then it won’t be a long series of hikes. This is still a very dovish central bank, and they will get skittish very quickly if markets balk at more expensive money – which, of course, they are wont to do.

Summary of my Post-CPI Tweets

July 17, 2015 1 comment

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.

  • Core CPI +0.18%, y/y rises to 1.77%. Pretty much as-expected on the headline figures.
  • Was some market concern about a possible higher print following PPI, but there isn’t much correlation.
  • Note that the next two months of CPI will ‘drop off’ an 0.10% and an 0.05%, so we should get to 2% on core inflation by mid-September.
  • Of course the Fed’s target is ~2.25% on core CPI (since they tgt core PCE) so Fed can argue it’s still below tgt. Uptrend may concern.
  • Housing inflation on the other hand going to the moon
  • This is great chart and it’s the reason core never had a chance of entering deflation territory. & will go up. (retweeted Matthew B)

oer

  • Housing #CPI overall just hit 2% y/y. Primary rents 3.53%. OER, which is 24% of the whole CPI, rose to 2.95% from 2.79%. Wow!
  • …our model for OER is at 3.1%, and the actual number HAD been lagging. I love it when a plan comes together.
  • So housing drove core services to +2.5% y/y, core goods -0.4%.
  • So if housing busted higher, what was the services offset? Medical care, 2.51% y/y vs 2.84% last month.
  • WSJ argued earlier this month that is expected because under Ocare people are actually spending their own money.
  • Within medical care, drugs went to 3.44% vs 4.05%, pro svcs went 1.83% from 1.58%, and hospital & related to 3.48% from 4.51%. So maybe?
  • Yes, core PCE & core CPI are going to be rising. But core PCE won’t be anywhere close to the Fed’s tgt by Sep.
  • Here is core and median CPI (the latter not out yet today) and core PCE.

pcecpi

  • core commodities are about where they should (eventually) be, given rally in TW$. A bit ahead of schedule though.

dollarvscorecomm

  • This chart means either that home prices are overextended or incomes need to catch up, or both.

medincvshome

  • Here is our OER model that is based on incomes. Not a tight fit but gets direction right.

eioermodel

  • I wondered about this when I paid $180/night for room in S. Dak. Hotel infl driven in part by fracking boom?

lodgingvsoil

  • probably would fit better if I used a regional lodging index rather than national, I suspect.

The summary of today’s CPI release is that the underlying pressures remain the same, and the trends remain the same. The really interesting dynamic going forward isn’t in CPI (although at some point when core goods starts to rise again, that will be quite interested), but in how the Fed reacts to the CPI. When they meet in September, core CPI will be around 2%, a bit shy of where the Fed’s target is. But the uptrend will be clearly apparent, and core and median CPI will likely be closer to 2.5% than 2% by the end of the year.

So the interesting dynamic is this: even though inflation is below the Fed’s target, and growth isn’t great shakes, and there are risks to the global economic system in Europe and in China…will the Fed tighten in September anyway? If they do, then it will be surprising if only because the FOMC passed on many opportunities over the last five years which would have been much more accommodating (no pun intended) to a normalization of rates. Sure, if they now recognize that they should have tightened three years ago it shouldn’t color their decision today – the best time to plant a tree may have been thirty years ago, but the best time that we can actually choose from is today – but the Fed hasn’t usually been so limber in its reasoning. Especially with a very dovish makeup of the Committee, I would be surprised to see them hike rates unless inflation has surpassed their target and growth is pretty strong with global risks receding.

However, the strength of my view on that has been slipping recently. Although I think most of the Fed’s talk on this point is mere bluster, we do have to pay attention when Fed speakers – and especially the Chairman – say the same things multiple times. While Yellen has expressed only an expectation that the Fed will raise rates later this year (and we have no idea how conditional that expectation is on stronger growth, on Chinese growth, on European volatility etc, she has said this multiple times and at some point I have to conclude she means it. I still think that the odds of getting rates even up to 1% in a single series of moves is slim, but I admit the more-consistent Fed chatter is worth listening to.

Categories: CPI, Tweet Summary Tags: , ,

Summary of My Post-CPI Tweets

Below is a summary of my post-CPI tweets. ou 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.

  • Core CPI prints +0.145…just misses printing +0.2, which will make it seem weak. We will see the breakdown.
  • y/y core goes to 1.73% from 1.81%. A downtick there was very likely because we were dropping off +0.23%
  • This decreases odds of Sept Fed hike (I didn’t think likely anyway) but remember we have a couple more cpi prints so don’t exaggerate.
  • Core goods (-0.3% from -0.2%) and core services (2.4% from 2.5%) both declined. Again, some of that is base effects.
  • fwiw, next few months we drop off from core CPI: +0.137%, +0.098%, +0.052%, and +0.145%. So y/y core will be higher in a few months.
  • INteresting was housing declined to 1.9% from 2.2% y/y. But it was all Lodging away from home: 0.96% from 5.1% y/y!
  • Gotta tell you I am traveling now and that reminds you the difference between rate and level. Hotels are EXPENSIVE!
  • Owners’ Equiv Rent +2.79% from 2.77%. Primary Rents 3.47% unch. So the main housing action is still up. And should continue.
  • Remember the number we care about is actually Median CPI, a couple hours from now. That should stay 0.2 and around 2.2% y/y.
  • At root, this isn’t a very exciting CPI figure. It helps the doves, but that help will be short-lived. Internals didn’t move much tho.

The last remark sums it up. While the movement in Lodging Away from Home made it briefly look like there was some weakness in housing, I probably would have dismissed that anyway. There’s simply too much momentum in housing prices for there to be anything other than accelerating inflation in that sector. We have a long way to go, I think, before we have any topping in housing inflation.

But overall, this was a fairly boring figure. While the year-on-year core CPI print declined, that was due as I mentioned to base effects: dropping off a curiously strong number from last year. (That said, this month’s core CPI definitely calms things a bit after last month’s upward surprise). However, the next few base effect changes will push y/y core CPI higher. While today’s data will be welcomed by the doves, by the time of the September meeting the momentum in core inflation will be evident and median inflation is likely to be heading higher as well.

Note that I don’t think the Fed tightens in September even with a core CPI at 2% or above, but the bond market will get very scared about that between now and then. Could be some rough sledding for fixed income later in the summer. But not for now!

Summary of My Post-CPI Tweets

May 22, 2015 2 comments

Here 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.

 

  • CPI Day! Exciting. The y/y for core will “drop off” +0.20% m/m from last yr, so to get core to 1.9% y/y takes +0.29 m/m this yr.
  • Consensus looks for a downtick in core to 1.7% y/y (rounding down) instead of the rounded-up 1.8% (actually 1.754%) last mo.
  • oohoooooo! Core +0.3% m/m. y/y stays at 1.8%. Checking rounding.
  • +0.256% m/m on core, so the 0.3% is mostly shock value. But y/y goes to 1.81%, no round-assist needed.
  • Headline was in line with expectations, -0.2% y/y. Big sigh of relief from dealers holding TIPS inventory left from the auction.
  • Core ex-shelter was +0.24%, biggest rise since Jan 2013. That’s important.
  • This really helps my speaking engagement next mo – a debate between pro & con inflation positions at Global Fixed Income Institute. :-)
  • More analysis coming. But Excel really hates it when you focus on another program while a big sheet is calculating…
  • It’s still core services doing all the heavy lifting. Core goods was -0.2% y/y (unch) while core services rose to 2.5% y/y.
  • Core services has been 2.4%-2.5% since August.
  • Owners’ Equivalent Rent rose to 2.77% y/y, highest since…well, a long time.
  • Thanks Excel for giving me my data back. As I said, OER was 2.77%, up from 2.69%. Primary rents frll to 3.47% from 3.53%.
  • Housing as a whole went to 2.20% y/y from 1.93%, which is huge. Some of that was household energy but ex-energy shelter was 2.67 vs 2.56
  • Or housing ex-shelter, ex-energy was 1.14% from 0.67%. Seems I am drilling a bit deep but getting housing right is very important.
  • Medical Care +2.91% from 2.46%. Big jump, but mostly repaying the inexplicable dip from Q1. Lot of this is new O’care seasonality.
  • Median is a bit of a wildcard this month. Looks like median category will be OER (South Urban), so it will depend on seasonal adj.
  • But best guess for median has been 0.2% for a while. Underlying inflation is and has been 2.0%-2.4% since 2011.
  • And reminder: it’s median that matters. Core will continue to converge upwards to it, (and I think median will go higher.)
  • None of this changes the Fed. They’re not going to hike rates for a long while. Growth is too weak and that’s all they care about.
  • For all the noise about the dual mandate, the Fed acts as if it only has one mandate: employment (which they can’t do anything about).
  • The next few monthly core figures to drop off are 0.23%, 0.14%, 0.10%, and 0.05%.
  • So, if we keep printing 0.22% on core, on the day of the Sep FOMC meeting core CPI will be 2.2% y/y, putting core PCE basically at tgt.
  • I think this is why FOMC doves have been musing about “symmetrical misses” and letting infl scoot a little higher.
  • US #Inflation mkt pricing: 2015 1.1%;2016 1.8%;then 1.8%, 2.0%, 2.0%, 2.1%, 2.2%, 2.3%, 2.4%, 2.5%, & 2025:2.4%.
  • For the record, that is the highest m/m print in core CPI since January 2008. It hasn’t printed a pure 0.3% or above since 2006.

 

There is no doubt that this is a stronger inflation print than the market expected. Although the 0.3% print was due to rounding (the first such print, though, since January 2013), the month/month core increase hasn’t been above 0.26% since January 2008 and it has been nearly a decade since 0.3% prints weren’t an oddity (see chart, source Bloomberg).

monthlycore

You can think of the CPI as being four roughly-equal pieces: Core goods, Core services ex-rents, Rents, and Food & Energy. Obviously, the first three represent Core CPI. The breakdown (source: BLS and Enduring Investments calculations) is shown below.

threecoreparts

Note that in the tweet-stream, I referred to core services being 2.4%-2.5% since August. With the chart above, you can see that this was because both pieces were pretty flat, but that the tame performance overall of core services was because services outside of rents was declining while rents were rising. But core services ex-rents appear to have flattened out, while housing indicators suggest higher rents are still ahead (Owners’ Equivalent Rent, the bigger piece, went to 2.77%, the highest since January 2008). Core goods, too, look to have flattened out and have probably bottomed.

So the basic story is getting simpler. Housing inflation continues apace, and the moderating effects on consumers’ pocketbooks (one-time medical care effects, e.g., which are now being erased with big premium hikes) are ebbing. This merely puts Core on a course to re-converge with Median. If core inflation were to stop when it got to median, the Fed would be very happy. The chart below (Source: Bloomberg) supports the statement I made above, that median inflation has been between 2% and 2.4% since 2011. Incidentally, the chart is through March, but Median CPI was just released as I type this, at 2.2% y/y again.

median thru march

But that gentle convergence at the Fed target won’t happen. Unless the Federal Reserve acts rapidly and decisively, not to raise rates but to remove excess reserves from the banking system (and indeed, to keep rates and thereby velocity low while doing so, a mean trick indeed), inflation has but one way to go. Up. And there appears little risk that the Fed will act decisively in a hawkish fashion.

Inflation Risks Behind, Beside, and Ahead

To be sure, it looks like growth slowed over the course of the difficult winter. The cause of this malaise doesn’t appear to me to be weather-related, but rather dollar-related; while currency movements don’t have large effects on inflation, they have reasonably significant effects on top-line sales when economies are sufficiently open. It is less clear that we will have similar sequential effects and that growth will be as punk in Q2 as it was in Q1. While I do think that the economy has passed its zenith for this expansion and is at increasing risk for a recession later this year into next, I don’t have much concern that we are slipping into a recession now.

Given how close the Atlanta Fed’s GDPNow tracker was to the actual Q1 GDP figure, the current forecast of that tool of 0.8% for Q2 – which would be especially disappointing following the 0.2% in Q1 that was reported last week – has drawn a lot of attention. However Tom Kenny, a senior economist at ANZ, points out that the indicator tends to start its estimate for the following quarter at something close to the prior quarter’s result, because in the absence of any hard data the best guess is that the prior trend is maintained. I am paraphrasing his remark, published in today’s “Daily Shot” (see the full comment at the end of the column here). It is a good point, and (while I think recession risks are increasing) a good reminder that it is probably too early to jump off a building about US growth.

That being said, it does not help matters that gasoline prices are rising once again. While national gasoline prices are only back up to $2.628 per gallon (see chart, source Bloomberg), that figure compares to an average of roughly $2.31 in Q1 (with a low near $2/gallon).

gasoline

It isn’t clear how much lower gasoline prices helped Q1 growth. Since lower energy prices also caused a fairly dramatic downshift in the energy production sector of the US economy, lower prices may have even been a net drag in the first quarter. Unfortunately, that doesn’t mean that higher gasoline prices now will be a net boost to the second quarter; while energy consumption responds quite rapidly to price changes, energy producers will likely prove to be much more hesitant to turn the taps back on after the serious crunch just experienced. I doubt $0.30/gallon will matter much, but if gasoline prices continue to creep higher then take note.

Inflation traders have certainly taken note of the improvement in gasoline prices, but although inflation swaps have retraced much of what they had lost late last year (see chart of 5y inflation swaps, quoted in basis points, source Bloomberg) expectations for core inflation have not recovered. Stripping out energy, swap quotes for 5-year inflation imply a core rate of around 1.65% compounded – approximately the same as it was in January.

5ycpiswaps

And that brings us to the most interesting chart of all. The chart below (source: Bloomberg) shows the year/year change in the Employment Cost Index (wages), in white, versus median inflation.

eciwagesvsmedian

Repeat to yourself again that wages do not lead inflation; they follow inflation. I would argue this chart shows wages are catching up for the steady inflation over the last couple of years, and for the increased health care costs that are now falling on individuals and families but are not captured terribly well by the CPI. But either way, wages are now rising at a faster rate than prices, which will not make it easy for inflation to sink lower.

Let me also show you another chart from a data release last week. This is the Case-Shiller 20-city composite year/year change. Curiously (maybe), housing prices may be in the process of re-accelerating higher after cooling off a bit last year – although home price inflation as measured by the CS-20 never fell anywhere near to where overall inflation was.

cs20

Inflation risks are clearly now moving into the danger zone. I showed a chart of a lagging inflation indicator (wages), a coincident indicator (energy), and a leading indicator (housing). All three of these are now rising at something faster than the current rate of core inflation. In my view, there is not much chance that core inflation over the next 5 years will average only 1.65%.

Summary of My Post-CPI Tweets

April 17, 2015 3 comments

Below you can find a recap and extension of my post-CPI tweets. You can 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.

  • Core CPI+0.23% m/m is the story, with y/y upticking to 1.754% (rounded to +1.8%). This was higher than expected, by a smidge.
  • Core services +2.4% y/y down from 2.5%. But core goods -0.2%, up from -0.5% last mo and -0.8% two months ago. Despite dollar strength!
  • Core ex-housing rose to 0.91% y/y from 0.69% at the end of 2014. Another sign core inflation has bottomed and is heading back to median.
  • The m/m rise of 0.20% in core ex-shelter was the highest since Jan 2013.
  • Primary rents 3.53% y/y from 3.54%; OER 2.693% from 2.687%. Zzzzz…story today is outside of housing, which is significant.
  • Accelerating major groups: Apparel, Transport, Med Care, Recreation (32.1% of index). Decel: Food/Bev, Housing, Educ/Comm, Other (67.9%)
  • …but again, in housing the shelter component (32.7% of overall CPI) was unch at ~3% while fuels/utilities plunged to -2.26% from flat.
  • [in response to a question “Michael we have been scratching our heads on this one… is it some impact of port strike do you think?”] @econhedge I don’t think so. But core goods was just too low. Our proxy says this is about right.
  • @econhedge w/in core goods, Medical commodities went to 4.2% from 3.9%, new cars from 0.1% to 0.3%, and Apparel to -0.5% from -0.8%.
  • @econhedge so you can argue Obamacare effect having as much impact as port strike. But it’s one month in any case. Don’t overanalyze. :-)
  • Medicinal drugs at 4.46% y/y. In mid-2013 it was flat. That was a big reason core CPI initially diverged from median. Sequester effect.
  • @econhedge Drugs 1.70%, med equip/supplies 0.08% (that’s percentage of overall CPI). 8.7% and 0.4% of core goods, respectively.
  • Median should be roughly 0.2%. I have it up 0.21% m/m and 2.22% y/y, but I don’t have the right seasonals for the regional OERs.
  • Further breakdown of medical care commodities: the biggest piece was prescription drugs, +5.74% y/y vs 5.19%. The other parts were lower.

The main headline of the story is that core inflation rose the most month-over-month since May. After a long string of sub-0.2% prints (that sometimes rounded up), this was a clean print that would annualize to 2.7% or so. And it is no fluke. The rise was broad-based, with 63% of the components at least 2% above deflation (see chart, source Enduring Investments, and keep in mind that anything energy-related is not part of that 63%) and nearly a quarter of the basket above 3%.

abovezero

This is no real surprise. Median has consistently been well above core CPI, which implied some “tail categories” were dragging down core CPI. These tail categories are still there (see chart, source Enduring Investments), but less than they had been (compare to chart here). Ergo, core is converging upward to median CPI. As predicted.

distrib

The next important step in the evolution of inflation will be when median inflation turns decisively higher, which we think will happen soon. But that being said, a few more months of core inflation accelerating on a year/year basis will get the attention of the moderates on the Federal Reserve Board. I don’t think it will matter until the doves also take notice, and this is unlikely to happen when the economy is slowing, as it appears to be doing. I don’t think we will see a Fed hike this year.

Summary of my Post-CPI Tweets

Below you can find a recap and extension of my post-CPI tweets. You can 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.

  • core CPI +0.157%, so it just barely rounded to +0.2%. Still an upside surprise. Y/Y rose to 1.69%, rounding to 1.7%.
  • y/y headline now +0.0%. It will probably still dip back negative until the gasoline crash is done, but this messes up the “deflation meme”
  • (Although the deflation meme was always a crock since core is 1.7% and rising, and median is higher).
  • Core ex-housing +0.78%. Still weak.
  • Core services +2.5%. Core goods -0.5%, which is actually a mild acceleration. So the rise in core actually came from the goods side.
  • Accelerating major cats: Apparel, Transp. Decel: Food/Bev, Housing, Med care, Recreation, Other. Unch: Educ/Comm. But lots of asterisks.
  • Shelter component of housing rose back to 3% (2.98%) y/y; was just fuels & utilities dragging down housing.
  • Primary rents: +3.54% y/y, a new high. Owners’ Equiv Rent: 2.69%, just off the highs.
  • In Medical Care, Medicinal Drugs 4.13% from 4.16%, but pro services +1.47 from +1.71 and hospital services 3.28% from 4.08%.
  • In Education and Communication: Education decelerated to 3.5% from 3.7%; Communication accel to -2.2% from -2.3%.
  • 10y breakevens +3bps. Funny how mild surprises (Fed, CPI) just run roughshod over the shorts who are convinced deflation is destiny.
  • No big $ reaction. FX guys can’t decide if CPI bullish (Fed maybe changes mind and goes hawkish!) or bearish (inflation hurts curncy).
  • Here’s my take: Fed isn’t going to be hawkish. Maybe ever. So this should be a negative for the USD.

This CPI report was a smidge strong, but just a smidge. The market was looking for something around 0.12% or so on core, and instead got 0.16%. To be sure, this is another report that shows no sign of primary deflation, but still it amazes me that inflation breakevens can have such a significant reaction to what was actually just a mild surprise. That reaction tells you how pervasive the “deflation meme” has become – the notion that the economies of the world are headed towards a deflationary debt spiral. I am not saying that cannot happen, but I am saying that it will not happen unless somehow the central banks of the world decide to stop flushing money into the system. And honestly, I see no sign whatsoever that that is about to happen.

As I wrote last week, it should be no surprise that this is a dovish Fed that will perpetually look for reasons to not tighten, and will do so only when the market demands it. My guess is that will happen once inflation, breakevens, and rates rise, and stocks fall. And this doesn’t look imminent.

Outside of housing, core inflation still looks soft. But housing inflation is accelerating further, as has been our core view for some time. The chart below (data source: Bloomberg) shows the y/y change in primary rents is at 3.54%. The median in primary rents for the period for 1995-2008 (the 13 years leading up to the crisis) was 3.20%. And during that time, core inflation ex-housing was 1.72% (median).

primrents

Like most data, you can use this to argue two diametrically-opposed positions. You might argue that the Fed’s loose money policy has helped re-kindle a bubble in housing, as inflation in rents of 3.54% with other core prices rising at 0.78% suggests that housing is in a world of its own. Therefore, the Fed ought to be removing stimulus, and tightening policy, to address the bubble in housing (and the one in equities) and to keep that bubble from bleeding into other markets and pushing general prices higher. But the flip side of the argument is that core inflation outside of housing is only 0.78%, so therefore if the FOMC starts removing liquidity then we may have primary deflation, ex housing. Accordingly, damn the torpedoes and full steam ahead on easing.

The data itself can be used right now to make either argument. Which one do you think the Fed will make?

Follow-up question: given that the Fed has historically one of the worst forecasting records imaginable, which argument do you think is actually closer to correct?

 

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