Inflation Returned with a Vengeance in January
The personal consumption expenditure data released Friday confirmed the January inflationary boom.
The Bureau of Economic Analysis said that its personal consumption expenditure (PCE) price index rose 0.6 percent in January compared with December, a substantial acceleration over the December pace of 0.2 percent. Importantly, the prior month’s figure was revised up from 0.1 percent, and November’s index was also revised from 0.1 percent to 0.2 percent, indicating that inflation was already hotter and prices were already higher than previously thought. So prices are rising faster from a higher base.
The data indicate that Wall Street’s economists underestimated inflation. The consensus was for a 0.4 percent gain, according to Econoday. The idea of a soft-landing — inflation coming down without serious damage to the labor market or economic growth — was at least partially based on the idea that inflation would continue its slide toward a benign pace after peaking last summer.
The January inflation numbers are more than enough to call the plausibility of the soft landing scenario into question.
All Signs Point to Rising Inflation — Including Food and Energy Prices
Importantly, this is not just one data point. The PCE figures confirm what we already saw in the consumer price index (CPI) and the producer price index (PPI).
The CPI rose 0.5 percent compared with the month before, a big step up in the pace of price increases from the 0.1 percent recorded for December, according to data released by the Labor Department last week. The December figure was revised up from the preliminary report showing the CPI had declined by 0.1 percent. Compared with a year ago, the CPI is up 6.4 percent. Those inflation figures all exceeded expectations and, like PCE inflation, showed that prices were already higher and rising faster than thought.
The producer price index jumped 0.7 percent compared with December, with goods prices rising 1.2 percent and services prices rising 0.4 percent. Those figures also exceeded expectations.
The most politically salient bits of inflation — energy and food — were hot in January. Food prices were up 0.4 percent in the PCE measure. While this is well below the sky-high levels of last year — when food inflation in the PCE index peaked at 1.4 percent in February — this is the second month in a row at 0.4. So progress in bringing down inflation in food has stalled. It is also far above anything that could be considered historically normal.
Energy prices rose by two percent in January, the first increase in the pace of inflation since last summer.
Although sophisticated types like to look at core prices to determine underlying inflation pressure, it’s worth paying attention to food and energy prices because they have a big impact on the public’s experience of inflation. Prices in grocery stores and at gas stations are some of the most frequently encountered by the consumers and have an outsized influence on how people think about whether their wages are keeping up with the cost of living. Anyone concerned about a wage-price spiral should not turn a blind eye to headline inflation or the food and energy components.
The rise in food and fuel prices may be one of the reasons why year-ahead inflation expectations rebounded in the February reading of the University of Michigan consumer sentiment survey. Consumers now expect 4.1 percent inflation over the next year, up from 3.9 percent in January.
Underlying Inflation Measures Also Heating Up
Core PCE prices, which exclude food and energy, rose 0.6 percent compared with the previous month. The forecast was for 0.4 percent. The increase in the December core index was revised up from 0.3 percent to 0.4 percent. The message repeats: inflation is running faster and has been running faster than previously thought.
Core goods prices rose 0.6 percent, with durables up 0.3 percent and nondurables up 0.8 percent. Expectations that core goods would by now start to be disinflationary now look premature.
Core services rose by 0.6 percent, as well. The metric that Federal Reserve Chair Jerome Powell has frequently mentioned is a focus for the central bank, core services excluding housing, also rose 0.6 percent.
Importantly, the median PCE inflation tracked by the Cleveland Fed came in right in line with overall inflation, at 0.6 percent. This is an indication that inflation is no longer a story about outliers but about the central tendency of prices. Median inflation is a good indicator of where inflation is going, and the January figure is not good news. At 0.6, this was the highest median inflation since last August.
The Fed Got It Wrong and Painted Itself into a Corner
The data over the past two weeks now makes the Fed’s decision to ramp down to a 25-basis point hike look like a miscalculation. It seems likely that if they had known about the reacceleration when they were meeting three weeks ago, Fed officials would have stayed the course at 50-basis points, matching the December hike.
The Fed’s next meeting is March 21-22. By that time, they will have one more jobs report and a further month of PPI and CPI. They will not have another month of the PCE price index, which they profess to follow most closely. It’s unlikely that they will want to upset market expectations by raising 50-basis points at the March meeting unless jobs and prices come in very hot. In some sense, the Fed painted itself into a corner of not being able to reaccelerate rate hikes by prematurely stepping down to 25-basis points at the last meeting.