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CPI: A closer look at today's report reveals that inflation is not behaving

by SuperiorInvest

The April CPI was quite close to expectations. The CPI stood at 0.31% month-on-month and 0.29% underlying, compared to a priori expectations of 0.37% and 0.30%. This relative precision does not necessarily mean that economists now know exactly what is happening in this index, just that all errors have been canceled out. But the failures are interesting and worth analyzing, and we will do that here. Ultimately, reports like this mostly create an opportunity to frame the debate on whatever side it falls on. But in my opinion, this report does not make significant progress toward “price stability” and leaves the Federal Reserve (if they are honest) still in a bind between slowing growth and sticky inflation.

Not all parts of the CPI were difficult, and that's the point here. Actually, that has been the point for quite some time, but it was made very clear in today's report. Here is the distribution of year-on-year changes in the lower-level components of the CPI. Nowadays, the left-hand things became more left-hand, the right-hand things became a little more right, and the middle things stayed more or less the same.

I don't normally do distribution, but it's important to keep this in mind. Inflation is not, especially at low levels (say, less than 5-8%), a smooth process. I used to compare this to the process of making popcorn in a bag; The bag inflates but not because all the grains exploded at the same time. The good news is that the blowouts are slowing down, as the Federal Reserve has taken some of the heat off the stock market, but the blowouts are still happening.

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Now, here's the good news. Thanks to the core CPI being on target, the 3-month, 6-month, 9-month (well, never mind that one), and 12-month averages slowed.

Underlying CPI M/MAverage inflation won't be out for another couple of hours, but my estimate for this month is 0.348% monthly, essentially unchanged from last month. That's somewhat bad news: the year-over-year median CPI should remain stable this month at 4.5%.

average CPISo I think the bold text on the top line is this: Inflation is slowing, but slowly and stickily. The markets loved that response, and stocks and bonds warmed to the report. But that's all framing. The debate that began today was never about whether inflation was declining; That's how it has been, for a while, and it's expected to be that way (even by me, and I'm on the high side of Street expectations by quite a bit) until at least the third quarter. and probably in the fourth quarter. That was not the point: we knew since the middle of last year that inflation would slow down in 2024. The question is whether the slowdown will continue after that, and whether it will slow to 3.75%-4.25% or 1.75%-2.25%. There is still no sign of the second and all signs point to the first, because the sticky substance has not yet come off.

And that still comes down to this: the slowdown continues to be driven by basic goods, and the resistance to that slowdown by basic services.

Basic services and basic goodsStaples fell to -1.3% year-on-year this month. I've been saying we've squeezed everything we can out of commodities, and then it drops from -0.7% to -1.3%, the lowest year-on-year figure in 20 years! This was despite the apparel industry increasing 1.2% m/m. As usual, the main culprits were cars, with used cars -1.38% mom after -1.11% last month, and new cars -0.45% mom. Ironically, I think the continued weakness in the auto sector is partly due to the continued rise in motor vehicle insurance costs (which are back at +1.4% MoM). We hear a lot about housing affordability, but you need to have housing. You No You have to upgrade your car.

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Weakness in commodities is welcome, naturally, but that's the volatile part of the CPI. And such low levels are only sustainable if the dollar continues to strengthen.

On the other hand, basic services only decreased from 5.4% to 5.3% year-on-year. Much of this is housing, with REA at +0.42% MoM (it was +0.44% last month) and primary rentals slowing to 0.35% from 0.41%. But outside of that, the 'super basics' (basic services minus housing rent) actually continue to go up. It is 4.91% year-on-year, below the 6.5% it reached at the end of 2022, but well above the October lows (3.75%).

Main servicesSome people will like the fact that the Supercore m/m was “only” about 0.42%, which is a decrease from the last few months. But that's a bit misleading. Airfares were -0.81% monthly, car/truck rentals -4.6%, and the monthly health insurance increase has run its course and returned to a more normal monthly change (positive, but at a rate annualized 3.5%). Longer term, we still have to worry about the continued acceleration in, say, hospital services, which is +7.7% year-on-year. I pointed this out last month and the picture is no prettier this month.

US IPC Hospital ServicesAnother comment/update on rentals. It is progressing as expected, although I expect a slightly faster pace of deceleration over the next quarter or so. But of course, everything indicates that rents are going to accelerate again. Even those terrible indicators that the inflation fools (this includes Yellen and most of the Fed) relied on to predict that rents would be in deflation this year… even those indicators are showing a rebound to come . Home prices are accelerating again. And none of this is surprising, given that homeowners face higher costs and increasing demand (6 million immigrants need shelter). And that's why inflation dolls are inflation dolls: there has never, ever been a good argument for why rents should be in free fall, if you only spend 10 minutes talking to a real landlord. Get your heads out of your models and look around from time to time, fools.

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Durable primary incomes versus the CPIOkay, that was a little strident, but I'm getting a little tired of asking potential clients how they're tackling inflation and listening to them tell me about their economist. Inflation hedging ≠ economists. Come on people.

Let's take this to what matters to us, and that is politics. The Administration is trying to improve inflation numbers by delaying refilling the Strategic Petroleum Reserve if prices rise, but it is also implementing new tariffs on Chinese products. That answers WWJD's first question (what will Joe do): in an election year, stocks that cause inflation next year are fine… but not anything that causes inflation this year. WWJD's other question (what will Jerome do) is still interesting. In fact, growth is slowing and has been for some time. Consumers seem a little tired and unemployment is slowly rising. But inflation is not behaving. Average inflation will not drop below 4% until September at the earliest, and even if we are optimistic it will not reach 3% before it begins to rebound. Previously, the Fed could pretend that new rent indicators showing widespread deflation gave it some leeway to act before rent reductions actually arrived, but that is no longer a plausible argument.

However, the FOMC has begun to take a more dovish stance. The significant slowdown in the rate of reduction that was announced at the last meeting clearly shows which direction they are leaning towards. The case for a rate cut later in the summer (absent some financial crisis that needs to be addressed) would be based on Committee members' sense that the current policy rate is above neutral and may return. to be neutral as risks become “more balanced.” Additionally, the doves could argue that they don't want to be seen easing right before the election, so an easing at the end of July is a “down payment” for a looser policy later. Inflation data doesn't support that, but the Fed doesn't just care about inflation data. If I were on the Committee, I wouldn't vote to ease the taper or lower rates, but I wouldn't be surprised to see a token easing at the late July meeting. It would be arrogant and possibly political and not supported by the data we currently have on hand… but I wouldn't be surprised.

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