Inflation: What January’s CPI print means for the Fed
The owners’ equivalent category models the rent equivalent for owner-occupied housing to properly reflect housing costs’ share of consumer spending. User fees and sales or excise taxes are included, while income taxes and the prices of investments such as stocks, bonds, or life insurance policies are not part of the CPI. “Unfortunately for markets, this print will reinforce the need for the Fed to remain aggressive and will likely keep a lid on risk assets over the foreseeable future,” Cliff Hodge, chief investment officer for Cornerstone Wealth, told Fortune. In his current role at Kiplinger, Dan writes about equities, fixed income, currencies, commodities, funds, macroeconomics, demographics, real estate, cost of living indexes and more. One such factor is the CPI, as reactionary Fed policies directly impact economic growth, corporate profits, and consumer spending ability. CPI-W is used to adjust Social Security payments as well as other federal benefits and pensions for changes in the cost of living.
The level of price inflation is likely 1% to 2% lower than the CPI number, which would bring it well in line with the Federal Reserve’s 2% target. Comparing the two measures shows that the CPI almost always runs “hot” – exaggerating the apparent threat of inflation. This distortion has become more pronounced since January 2022, when the Federal Reserve began its aggressive program of interest rate increases.
Step 1: Switch to the Fed’s Preferred Inflation Measure, The PCE
Economists were looking for headline inflation to increase 3.3% year-over-year. The Consumer Price Index (CPI) measures the monthly change in prices paid by U.S. consumers. The Bureau of Labor Statistics (BLS) calculates the CPI as a weighted average of prices for a basket of goods and services representative of aggregate U.S. consumer spending. The CPI is widely used by financial market participants to gauge inflation and by the Federal Reserve to calibrate its monetary policy. Businesses and consumers also use the CPI to make informed economic decisions.
The cost-of-living adjustments (COLAs) based on the CPI affect federal payments to the approximately 70 million Americans receiving Social Security and Supplemental Security Income (SSI) benefits. They also apply to federal pension payments, school lunch subsidies, and income tax brackets. The BLS collects about 80,000 prices monthly from some 23,000 retail and service establishments. Although the two CPI indexes https://www.dowjonesanalysis.com/ calculated from the data both contain the word urban, the more broad-based and widely cited of the two covers 93% of the U.S. population. The difficulties of measuring inflation, and of comparing different ways of measuring it, are complex. But as an antidote to the inflation panic that the CPI generally induces, these adjustments show that the true picture today is much less alarming than the headline figure.
- Fears are running high that a hot January inflation print will force the Federal Reserve to send interest rates ever higher and keep them there for longer.
- “Unfortunately for markets, this print will reinforce the need for the Fed to remain aggressive and will likely keep a lid on risk assets over the foreseeable future,” Cliff Hodge, chief investment officer for Cornerstone Wealth, told Fortune.
- Since CPI measures the change in consumers’ purchasing power, it is often a key factor in pay negotiations.
- Kiplinger is part of Future plc, an international media group and leading digital publisher.
- In response to higher-than-desired inflation rates via the CPI, the Fed adjusts the Fed funds rate.
For this reason, the CPI may not adequately reflect each individual’s experience about costs and changes over time. Because the CPI Index is so crucial to economic policy and decision-making, its methodology has long been controversial, drawing claims it either understates or overstates inflation. A panel of economists commissioned by Congress to study the issue in 1995 concluded the CPI overstated inflation and was followed by calculation changes to better reflect substitution effects.
The PCE has been running more than 1 full percentage point lower than the CPI. Below please find a selection of commentary from economists, strategists and other market pros on what to expect from the next CPI report, sometimes edited for clarity or brevity. After all, the S&P 500 rose more than 6% in the first month of 2023 thanks in part to expectations that the Fed would pivot away from its aggressive policy on interest rates sometime later this year. Critics claim that adjustments for changes in product quality and features understate the CPI.
Understanding the Consumer Price Index (CPI)
The CPI Index is an inflation indicator closely watched by policymakers and financial markets. A related CPI measure is used to calculate cost-of-living adjustments for federal benefit payments. As noted above, the basket of goods and services used in the CPI calculation is a composite of popular items commonly purchased by Americans.
And after a stunningly strong January jobs report, the market’s worries aren’t exactly misplaced. In the broadest sense, the CPI and unemployment rates are often inversely related. This is not always the case in every economy, but the Federal Reserve often attempts to decrease one metric while balancing the other.
And although gas prices have dropped sharply since June, experts say energy price relief may not last. As a result of higher-than-targeted CPI calculations, the Federal Reserve began raising interest rates and tapering certain asset purchases. On one hand, these measures aim to slow economic growth, make it more expensive for consumers to acquire debt, and stem monetary supply growth. The CPI and its components are also used as a deflator for other economic indicators, including retail sales and hourly/weekly earnings, to separate fundamental change from that reflecting change in prices. Employees may turn to CPI reports when approaching their employers for a raise based on nationwide increases in labor rates as well as pricing. And for investors, the hot inflation reading means stocks will continue to face pressure as rising rates increase the cost of borrowing and lower market valuations.
The CPI is so deeply flawed that the Federal Reserve decided decades ago to ignore it for purposes of calibrating monetary policy. The Fed relies instead on a measure called the Personal Consumption Expenditures Index (PCE), which is widely regarded as a superior (though still imperfect) metric. The monthly CPI is still treated as the most important inflation metric by most of the leading media channels. It is still the “headline” number – and as such, it continues to play an outsized role in forming public opinion about inflation. The inflation rate can be calculated for a given month or annual period; in either case, the appropriate new and prior period must be selected.
The Monthly CPI Panic
It measures the average change in prices paid by consumers over a period of time for a basket of goods and services. The index is calculated and published monthly by the Bureau of Labor Statistics. It is among the most common measures of inflation, indicating the health and direction of the economy. It also serves in other capacities, notably to help make adjustments to certain income payments, such as Social Security and pensions for federal civil service retirees.
While the new reading showed inflation hasn’t moved higher, it didn’t improve either. And key components the Fed examines, services– excluding shelter– remained sticky. Investors have pushed back bets on the timing for when the Fed could begin cutting rates to June now from May on the back of this hot data. https://www.forexbox.info/ Over the years, the CPI has frequently drawn criticism that it has either understated or overstated inflation. Because the CPI is based on consumer spending, it doesn’t track third-party reimbursements for healthcare and significantly underweights healthcare relative to its proportion in the GDP as a result.
And, like most of their peers, the BofA team are also concerned about the rising possibility of a “hard landing” for the U.S. economy. The next CPI report is giving traders and investors even more agita than usual. Fears are running high that a hot January inflation print will force the Federal https://www.topforexnews.org/ Reserve to send interest rates ever higher and keep them there for longer. Some have conjectured that the Fed needs to see another six months of good data. And that, ironically, would put the Fed in the month of June, which is where investors are now pricing in the first rate cut.
According to the BLS, the particularly controversial hedonic adjustments, which use regression techniques to adjust prices for new features on a relatively small proportion of the CPI items, have a net effect close to zero on the index. As a result, the labor market strengthened and returned to pre-pandemic rates by March 2022; however, this stimulus has resulted in the highest CPI calculations in decades. The monthly CPI release from the BLS leads with the change from the prior month for the overall CPI-U as well as its key subcategories, along with the unadjusted change year-over-year. The BLS detailed tables show price changes for a variety of goods and services organized by eight umbrella spending categories. The first is used to determine the current cost of the weighted-average basket of products, while the second is used to analyze the year-over-year change.
The CPI report uses a different survey methodology, price samples, and index weights than the producer price index (PPI), which measures changes in the prices received by U.S. producers of goods and services. Inflation was unchanged on a monthly basis vs economists’ expectations for an increase of 0.1%. While rising prices at the grocery store are worrying economists, their main concern seems to be shelter inflation. As the traditional CPI-U calculation only measures inflation for urban populations, it remains a less-than-reliable source of data for individuals living in rural areas.
But despite Powell’s efforts, inflation, as measured by the Consumer Price Index (CPI), rose by 0.1% in August, and 8.3% compared to the same period a year ago, the Bureau of Labor Statistics revealed on Tuesday. Hopefully, the authorities see this similarly, and the Fed will not tumble forward into a new round of rate increases, which would inflict significant collateral damage on the economy (another subject for a forthcoming column). The gap between the unadjusted CPI and the inflation metrics that employ volatility-reduction techniques is larger still. The headline number ranges up to 250 basis points above the adjusted figures. It is also generally agreed that the volatility in the inflation signal should be reduced to get an accurate picture of the broad price trends in the economy. There are many ways to attack this, and the Federal Reserve system has spawned at least half a dozen alternative volatility-reducing metrics.