CPI Inflation Comes In Hot, Keeping Fed On Guard

The consumer price index showed firmer price pressures in January, as the annual CPI inflation rate dipped less than expected. The core CPI inflation rate, which strips out food and energy, also came in hotter than predicted. Still, S&P 500 futures were volatile in early Tuesday stock market action, turning slightly lower after stocks rallied on Monday.

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CPI Inflation Report Hits And Misses

The CPI inflation rate eased to 6.4% from 6.5% the prior month vs. Wall Street expectations of 6.2%. The consumer price index rose 0.5% on the month, in line with forecasts but a lot hotter than muted increases of 0.1% and 0.2% the prior two months.

The core CPI rose 0.4% vs. December levels, above the 0.3% forecast. The annual core inflation rate eased to 5.6% vs. 5.7% in December and forecasts of 5.5%. The core CPI inflation rate peaked at a 40-year-high 6.6% in September.

Fed chair Jerome Powell has said that the most important category of spending for the inflation outlook is core nonhousing services, reported with the Commerce Department’s late-month personal income and outlays data. Wall Street views the CPI gauge of services less rent of shelter as a reasonably close proxy, but it has serious shortcomings.

January’s CPI showed services less rent of shelter prices rising 0.6% on the month and 7.2% from a year ago.

Fed Policy Impact

The CPI report doesn’t really change the outlook for Fed policy. Quarter-point rate hikes in March and May appear almost certain, as the Fed errs on the side of making monetary policy too tight. A strong January jobs report and improved global growth have put policymakers on guard against a renewed firming in price pressures, which could make high inflation become entrenched. Meanwhile, with recession looking less likely, the downside of more restrictive policy has diminished.

Ahead of the CPI report, odds of a third Fed rate hike by July were just shy of 50%.

The extent to which the Fed keeps hiking after that will depend less on the CPI than wage growth, which is key to the outlook for service-sector inflation. The good news for markets that has sparked the current S&P 500 rally attempt is that wage growth has showed a surprising deceleration.

S&P 500 Reaction To CPI Report

After the CPI report, S&P 500 futures whipsawed, with an initial decline and spike, before moving slightly lower. The S&P 500 rallied 1.1% on Monday, climbing back above the key 4100 level. The current rally’s upside may be limited near-term. Wednesday is expected to bring a hot retail sales report, which could fan fears that the U.S. economy has renewed momentum that will require still-higher interest rates.

Through Monday’s close, the S&P 500 has rallied 15.7% from its bear-market closing low but remains 13.7% below its all-time closing high.

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