Some signs of hope in this CPI report, but economists are not ready to call an inflation top

Published Tue, Apr 12 20221:21 PM EDTUpdated Tue, Apr 12 20225:19 PM EDT

Patti Domm @in/patti-domm-9224884/@pattidomm

There are some signs that inflation may be peaking, but rising food, shelter and energy costs could be hot enough to keep the Fed on an aggressive rate hiking and tightening path, economists say. Nonetheless, the bond market priced in a slightly less hawkish Federal Reserve after the 8:30 a.m. consumer price index report. The fed funds futures reflected a slight change in expectations, reducing potential rate increases by about 10 basis points by next January though the market remained positioned for 50-basis-point hikes in both May and June. A basis point equals 0.01%. The consumer price index rose 8.5% in March from a year ago, the biggest gain since December 1981, and well above February's 7.9% increase. The month-over-month jump of 1.2% was slightly more than expected, but core CPI, excluding energy and food, was up 0.3%, below the 0.5% expected. Core CPI rose 6.5% year over year. Treasury yields, which had been steaming higher ahead of the report, declined on the report. "When bond yields go down after a number like this, it tells you people weren't expecting it, and what they're expecting going forward are softer numbers," said James Caron, global head of macro strategy for fixed income at Morgan Stanley Investment Management. Ben Jeffery, U.S. rate strategist at BMO, said the market is now expecting a fed funds rate of 2.45% by January, 10 basis points lower than Monday's level. "I think it makes more than two 50s less likely, but it doesn't really move the needle in terms of a 50-basis-point hike in May and June," Jeffery said. The falling Treasury yields helped boost stocks initially but equities reversed and ended the day with losses. The spread between the 2-year Treasury yield and 10-year Treasury yields, which had inverted March 31 , was steepening as bond yields fell. The yield inversion came amid concerns that the Fed's rate hiking could trigger a recession. Yields fall when bond prices rise. The 10-year yield was at 2.72% Tuesday, after shooting to 2.85% in early trading. The 2-year yield was at 2.38%. Caron said he expects the 10-year will consolidate now, with 2.75% the new top of a range. "The steepening implies a less aggressive Fed, and I think the rally in outright terms points to some conviction that maybe the peak core inflation is behind us, now that we've seen some of the edge taken off some of the pandemic-specific categories," said Jeffery. One of those was the used-car category, where prices fell 3.8% in March, but are still up 35.3% year over year. "They're still full steam ahead with rate hikes, but it does imply we could see some of the peak inflation work its way out over the summer," said Jeffery. Mark Zandi, chief economist at Moody's Analytics, said inflation could now be on the verge of peaking. "It's evident that without the Russian invasion and higher oil and commodity prices that inflation would be moderating by now," he said. "The next couple of months are going to be tough on a year-over-year basis. We're still going to get more increase. It feels like we're topping out unless Russia and the pandemic go in a darker direction." Some economists said that while the slower pace of change in core CPI was a slight positive, it is not enough to call a top in consumer price inflation. Some of the stickiest categories — food and shelter — are expected to continue to rise. "One month does not a trend make," said Diane Swonk, chief economist at Grant Thornton. "The good news is energy costs have come off their highs." According to AAA, the national average for unleaded gasoline was at $4.09 per gallon Tuesday, after peaking at $4.33 per gallon on March 11. The Bureau of Labor Statistics said the increases in gasoline, shelter and food were the largest contributors to the increase in inflation. Gasoline rose 18.3% in March and was responsible for more than half the monthly increase. Food rose 1%, and food at home was up 1.5%. Shelter costs, about a third of CPI, were up a half percent or 5% year over year. Overall food costs rose 8.8% from a year ago, but food at home is now up 10% year over year. Prices for meat, poultry, fish and eggs jumped 13.7% from last March. "This is the first double-digit food [at home] increase since 1981. It's the longest span of double-digit protein increases since the 1970s" said Swonk. "Poultry, meat, fish and eggs were up for seven months solid. This now marks a year of inflation over the Fed's target." Bank of America economists say the Fed will look through the noise; they expect three 50-basis-point rate hikes. "The energy price moves reflect the shock from the Russia-Ukraine conflict, while food has yet to feel the impact given lagged pass-through and is likely to remain hot throughout the year," they wrote. But they do expect inflation may have topped out in March. "We think that both reflect the peak for yoy rates but expect inflation to cool to hot levels by year-end, with headline at 6% 4Q/4Q and core at 5% 4Q/4Q," they wrote in a note.

People shop for groceries at a supermarket in Glendale, California January 12, 2022.

Robyn Beck | AFP | Getty Images

There are some signs that inflation may be peaking, but rising food, shelter and energy costs could be hot enough to keep the Fed on an aggressive rate hiking and tightening path, economists say.