— This is the script of CNBC's news report for China's CCTV on June 11, 2021, Friday.
The new inflation report has some worrying signs if we look at historic data. A 5% appreciation is the biggest CPI gain since the 5.3% increase in August 2008, just before the Global Financial Crisis. The core CPI, a separate gauge that excludes volatile food and energy prices, increased 3.8% year over year in May, which is the fastest pace since May 1992.
But investors aren't overly worried. Major U.S. stock indexes closed higher and VIX fell over 10% to the pre-pandemic level. Futures indicate the stock market will perform well in the following session. To understand the market sentiment, we have to take a closer look at the CPI data.
Some of the price increases reflect a return to normalcy - such as airfares, restaurants, and women's apparels - and they are very likely to stay. But some other increases may be due to short-term factors. One-third of the monthly increase of CPI in May came from a jump in prices for used cars and trucks, which are 30% more expensive than a year ago. This is largely driven by a global shortage of chips and other materials.
Amid the pandemic, price increases caused by global supply chain disruptions are reflected in various sectors. And many believe they will keep going up in the next few months but won't stay long.
Christine Lagarde
President of the European Central Bank
"Inflation has picked up over recent months, largely on account of base effects, transitory factors and an increase in energy prices. It is expected to rise further in the second half of the year, before declining as temporary factors fade out."
The other two reasons can also help to explain the reaction in the market. On one hand, the Fed wants to tolerate a higher level of inflation than normal and will not rush to tighten its policy during the pandemic. On the other hand, the U.S. economy keeps recovering. Data that came out the same day from the Labor Department shows that initial jobless claim numbers dropped to the lowest level since the pandemic. Therefore, even if the Fed starts to talk about tapering, investors will not necessarily take it as a negative signal. The U.S. economy will grow to be strong enough to weather any risk from the monetary policy change. Most investors expect the Fed to begin talking about tapeing in the second half of the year but will not take action until at least next year.
The CME FOMC watch tool indicates that the probabilities for the Fed to keep current interest levels unchanged in the last FOMC meeting of 2021 are higher than 96%. The Jackson Hole annual meeting for central banks, which will happen in August, will be a good chance for us to see how the Fed will move.