Plenty of experts will tell you that this CPI report doesn't really matter. It was a fluky rise in used car and apparel prices! They'll say. Obviously that's skewing the results. But I think we all know by now that each month seems to bring these "fluky" factors that all point to the same conclusion: our inflation problem is worse than anybody seems to want to admit.
It doesn't matter whether one or two components did this instead of that last month. What matters is that the headline consumer price index just jumped 8.6% from a year ago. Like it or not--the Fed and many economists prefer the "smarter" PCE inflation gauge--the CPI matters. A lot.
For starters, nearly 70 million Americans will see their Social Security payments go up to match the increases in CPI--a baked-in wage-price spiral, if you will. In fact, the "blue collar" CPI-W that their annual increase is based upon is actually running hotter than the headline CPI right now, up 9.3% over the past year as of this report! So it's quite possible the January payment hike for Social Security recipients will match or even exceed this year's record 5.9% increase.
Second, the now-super-popular "I" bonds from the Treasury also set their payments based on the headline (non-seasonally adjusted) CPI. As The Wall Street Journal has reported, nearly $15 billion of the bonds have been sold just since November; "about $6 billion more than the previous 20 years combined." In other words, an inflationary problem largely caused by the government's over-response to the pandemic is now requiring it to keep paying out higher sums to the elderly and certain investors, while driving up interest rates the government has to pay to fund all of this spending in the first place.
Not to mention that the CPI is the most visible inflation report with the longest track record; the "Dow Jones" of the group, if you will. It's the one that the all-important consumer expectations and wage negotiations will inevitably be set off of, in tandem with the hard-to-escape ubiquitous and relentless rise in gasoline prices. So yes, in a nutshell, it matters.
Nor is the CPI at odds with what other inflationary readings are telling us. The PCE report is up 6.3% year-over-year, while its core measure (ex-food and energy) is up 4.9%, as of April. While its levels of increase are less sharp, they are in no way moderating quickly enough to give the Fed hope that inflation will fall sharply this year back towards target. The problems right now are that (a) inflation is spreading from the goods to the services sector; and (b), energy prices have reaccelerated since the spring, to fresh record highs here in June.
The Fed's Loretta Mester told us last week in an interview that "clear, compelling" progress on inflation--Chair Powell's new catchphrase--to her means seeing "the monthly increases on a downward trajectory" for a sustained period of time. That probably means seeing only 0.1 or 0.2 percentage-point gains each month; even the 0.3 hikes in core PCE in the last three reports are too high, pointing as they do towards annualized 3.6% core inflation when the measure really needs to be in the 2% to 2.5% range.
Now imagine how Fed policymakers must feel looking at this morning's CPI report, which showed the headline index jumping 1% just from last month and the core up 0.6 points, or three times worse than what is needed right now. And the cherry on top came 90 minutes later, in the form of the University of Michigan's consumer sentiment report at 10 a.m. ET. The reading slumped to a record low of 50.2, a shocking eight-point drop from the prior report, as consumer inflation expectations jumped higher again. Their one-year expectations rose a tenth to 5.4%; their five-year expectations jumped three-tenths to 3.3%.
It is completely wishful thinking that inflation will fall sharply by the end of this year, even if the labor market slows further. It honestly might take not just a recession, but a really deep one, to quell these pressures; global demand is simply too high relative to capacity, a problem most acute in the energy markets right now. And we are nowhere close to being in a deep recession, so in other words, there are no factors--other than much tighter monetary policy--powerful enough to restrain further inflation and supply-chain pressures.
We asked back in March, why not have the Fed hike by a full point? Why are they still running policy so far below neutral? Why are we still pretending that factors other than monetary (and fiscal) policy are to blame while letting the problem fester and keep getting worse? Why can't we reverse emergency stimulus as quickly as we added it, once the overreach becomes clear?
Both the White House and Fed officials will have to have better answers to these questions in the months ahead.
See you at 1 p.m!
Kelly