Faster than projected US inflation and an unexpected decline in retail sales at the start of the year may cause some indigestion on Wall Street, but probably don’t mean much pain for the economy.
The core consumer price index (CPI), which excludes volatile food and energy costs, rose 0.3 per cent in January from the prior month, the biggest advance in a year and exceeding the 0.2 per cent median estimate of economists, a Labour Department report showed on Wednesday.
Part of the CPI gain resulted from a 1.7 per cent monthly jump in apparel prices, the biggest increase since 1990. Women’s apparel costs rose a record 3.4 per cent.
Separate figures showed purchases at retailers dropped 0.3 per cent after a downward revision to December.
Treasuries slumped and investors marked up expectations for Federal Reserve interest-rate increases. The inflation report was hotly anticipated following robust wage data earlier this month that sent yields higher and started a rout in equities that pushed the main indexes into the first correction in two years.
While the retail figures support analyst forecasts that consumption will slow this quarter on the heels of the biggest quarterly advance in more than a year, consumer spending will likely be buttressed this year by wage growth, a tight labour market and tax cuts.
“These reports tell two stories: one, that the real economy may not be as strong as we thought, but also that inflation may be a bit higher,” said Paul Ashworth, chief US economist for Capital Economics. “The Fed looks like they’re leaning towards the inflation part of the story.”
Fed funds futures show that the market is now pricing in two full quarter-point increases through the central bank’s September meeting, and that the overall amount of tightening being anticipated for this year and next has rebounded close to levels seen earlier in February.
In December, Fed officials pencilled in three interest-rate increases for 2018 in their most recent set of quarterly economic projections. That already incorporated expectations for a bump in inflation this year - to 1.9 per cent, as measured by the personal consumption expenditures index, which typically runs slightly slower than CPI. Excluding food and energy, PCE inflation was 1.5 per cent in December.
Michael Feroli, chief US economist at JP Morgan, said the new data cement the likelihood of a policy move when the Federal Open Market Committee gathers next month and increase the chances that officials will forecast four interest-rate hikes this year, up from three.
"To the extent markets had been dismissing the idea that inflation could firm, that was a mistake. Now markets are repricing to reflect that inflation risk," said Mr Feroli, who formerly worked at the central bank. While Wednesday's data do not necessarily mean a significant acceleration is coming, "I definitely expect the numbers to continue to push up," he said.
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Meanwhile, Mr Feroli expects better results on consumption later in the quarter, as a strong labour market, rising incomes and lower taxes mean “consumers are in a good position.”
Part of the CPI gain resulted from a 1.7 per cent monthly jump in apparel prices, the biggest increase since 1990. Women's apparel costs rose a record 3.4 per cent. Other categories contributing to the increase in CPI included rents and owners' equivalent rent, which both rose 0.3 percent from December; medical care, up 0.4 per cent; and motor vehicle insurance, which advanced 1.3 per cent, the most since 2001.
“Outside of apparel, this was a lot of domestically-oriented consumer price pressure, which is a sign the economy is starting to produce more meaningful inflation,” said Royce Mendes, an economist at CIBC World Markets. “Overall the trend is moving in the right direction and it’s going to necessitate a tightening in monetary policy.”
The increase in the core CPI brought the three-month annualised gain to 2.9 per cent, the fastest since 2011, according to data compiled by Bloomberg.
Policymakers look at the core CPI to better gauge underlying inflation because food and energy prices tend to be volatile. The latest report showed energy prices rose 3 percent from the previous month and food costs advanced 0.2 per cent. The cost of gasoline at the pump has fallen so far in February.
Fed policymakers will also have February CPI data in hand before they next meet March 20 to 21 in Jerome Powell's first gathering as chairman. Mr Powell, speaking on Tuesday at his ceremonial swearing-in, suggested that the central bank would push ahead with gradual interest-rate increases, and that officials "remain alert to any developing risks to financial stability".