Working on a number of things today with other projects in the fire as well. Haven’t had much time to sit and think, let alone compose much of a post or do much research into current topics so this quicky via the notebook will have to do – Happy TGIF Eve!
Tuesday’s CPI report and my post created quite a few questions – thought it might. That post by reference, is here: https://rhislop3.com/2024/02/13/econ-tuesday-cpi-repoYort-out-heat-still-on/ Since the post dropped, folks from all over the world (literally, not kidding) have dropped me questions basically, about what’s going on. I (sort of, electronically) keep a notebook so I don’t lose track of any questions or inquiries and ultimately, so I can, as time permits, answer or address each. Thematically (not an exhaustive list but curated) are the econ questions I have addressed (and my summarized replies) since Tuesday.
- I thought inflation was trending down, what has changed? The trend has been down, but I think we are on a bit of a roller coaster ride where there now, is likely to be a bump up again for a number of reasons. First, a lot of the down trend has been driven by lower energy costs. Oil production has been high while demand softened a bit. Warmer weather across the U.S. had softened heating oil, natural gas, and propane demand and thus, prices. If energy trends back to say, a typical profile which, it is moving back toward, the headline CPI number will be hotter again over the next months or so. Core Inflation, that which removes energy and food, is riding above CPI because of the positive impact of lower energy costs. I expect Core and CPI to get closer over the next couple of months.
- Why are services, as you said, not sensitive to Fed increases in interest rates? Right now, the biggest drivers of inflation are rent or shelter (the largest component of CPI) and services inflation. Energy and goods have moderated or slowed. Interest rate increases have the effect, if fast enough and large enough, of increasing housing costs as sales dissipate, in an environment where there already is more demand for housing than supply. They also increase the cost of new home builds, such that they are. They assist in shifting demand to rental properties that as demand increases (for rental units), so does rent. Right now, service inflation is very much driven by a phenomenon known as Wage-Push inflation. This is very visible in the gap (increase) in food at home versus food out or restaurants. Food at home is always cheaper but in terms of cost increases, food at home is moderating. Food out inflation is due to restaurants having to compete for scarce labor. Rising minimum wage standards in various states plus labor scarcity has caused restaurants to jump wages. The wage increases, in return, are pushed onto diners via price increases. As the largest component of services cost is wages, Federal Reserve increases in interest rates won’t change the labor dynamic at all, thus, Wage-Push inflation will remain as long as labor scarcity remains.
- Will the Fed raise or lower rates? The $20,000 question. My guess is 50/50 each way but in the short run, probably not. The economy is slowing despite glowing GDP numbers driven principally by government funded spending or government consumption. I do firmly believe that Tuesday’s CPI report took any near-term cut off the table (prior to May). If as I believe, inflation will stay hotter for a bit longer yet, the Fed will feel the pressure to maybe raise a tick or hold steady for longer. Remember, raising right now won’t have much impact on where inflation is coming from and could easily, topple the economy into recession.
- Everyone says wages are going up, but you paint a different picture…why? Wages have risen but not as fast as inflation. The gap between inflation increases that consumers have seen since 2021 and wages is still negative – wages are behind by 7% plus. Real wages, inflation adjusted, are negative meaning, the increases have been fully offset by price increases and in turn, the wage increases are not keeping up and purchasing power for the basket of goods and services in the CPI has eroded. Some reporting likes to paint point-in-time pictures where in one month, wage increases are higher than inflation or across maybe, a quarter. Unfortunately, reality doesn’t quite balance the issues in short increments. Inflation is cumulative and compounding. Without elements of deflation, even a lower increase remains an increase and it is no top of previous increases. It has only been of late that wages have started to pace at or above inflation. As little as twelve months ago, and then further back another twelve months, that was not the case – inflation was running quite a bit higher and hotter.
- I heard one report where credit card debt was at an all-time high and then another report where they said in real terms, it was about the same as 2019. Which is it? It’s both but there is another element that is more important – cost of debt. Yes, credit card debt is at an all-time high. Yes, in real terms, it may be equivalent to 2019 or 2018. One element that is not equivalent however, is the cost of servicing and/or repaying the debt. The real picture I look at is charge-offs and delinquencies. Credit card charge-offs and delinquencies are rising, rapidly. This tells me that consumers are too leveraged.
- Sounds like lending and credit markets won’t improve anytime soon, right? Right but they weren’t going to anytime soon regardless. Fed reductions, if they were to occur in the first half of the year, would be tiny – .25% at a time. We would need to see a full point or more to really get the credit markets juicy and the market flows reversed. As long as banks can make high returns on their cash via deposits with the Fed, with no credit risk (lending), they will stay the present course. Until the arbitrage reduces position, lending and credit markets will be tight for a bit yet. Treasury yields are still high and, in some cases, moving higher in the benchmark durations (10 year).
- What’s your forecast? What other sources of data should I look at? My forecast continues to be a bit dour in terms of inflation. I think we will see above 3% headline for a number of months yet, unless energy really softens (which is unlikely). Core is likely to remain higher as rent shows no signs of softening nor does service inflation. As for other data sources, I like the Conference Board and their Leading Indicators, and I really like the Cleveland Fed and their median CPI data ( https://www.clevelandfed.org/indicators-and-data/median-cpi ). I think this metric is superior to the Bureau of Labor and Statistics CPI report. The median CPI definitions from the Cleveland Fed are,
The median CPI and the trimmed-mean CPI use a different approach. These measures exclude the smallest and largest price changes during the month, so the items excluded from the CPI change from month to month. The median CPI excludes all price changes except for the one in the center of the distribution of price changes, where the price changes are ranked from lowest to highest (or most negative to most positive). The 16 percent trimmed-mean CPI excludes price changes in specified upper and lower tails of the distribution.
According to research from the Cleveland Fed, the median CPI provides a better signal of the underlying inflation trend than either the all-items CPI or the CPI excluding food and energy. The median CPI is even better at forecasting PCE inflation in the near and longer term than the core PCE price index.