The Economy

9.1% CPI Inflation Will Pressure Fed: Weekly Stat

"This report keeps the Fed on course and is consistent with our call for an inflation-driven mild recession in the second half," said BofA economists.

CFOs woke up to not-so-great news on the inflation front Wednesday. The headline consumer price index hit 9.1% in June, another 40-year high. That was 30 basis points above most economists’ estimates. Excluding volatile food and energy prices, so-called core CPI increased 5.9% compared with the 5.7% estimate.

The immediate reactions were sobering. A trio of Bank of America economists said the reading demonstrated “stronger-than-expected underlying price pressures in core goods and core services.” Goods categories such as food, energy, and apparel saw price jumps, as did services such as medical care and shelter prices.

Declining energy prices may offer consumers and businesses some relief on headline inflation. [BofA’s] “outlook for core goods includes mild deflation over the coming year, but there is little in this report to suggest it is coming anytime soon,” according to a BofA research note, emailed to CFO.

“This report keeps the Fed on course and is consistent with our call for an inflation-driven mild recession in [the second half] of 2022.”

Olu Sonola, head of U.S. regional economics at Fitch Ratings, pointed out that the pace of core services inflation, “which tends to be a lot more sticky” given the labor market’s strength, may actually push the Federal Reserve Open Market Committee into more hawkish territory.

“We now expect the Fed to raise interest rates to 3.0% by [the fourth quarter of 2022] and to 3.5% by [the first quarter] of 2023, i.e. above its estimates of the neutral rate and hence to a ‘restrictive’ stance,” Sonola said in an emailed comment.

On Wednesday morning, the CME FedWatch tool showed a 51% probability of the FOMC raising the target fed funds range by 100 basis points at its July 27 meeting, and a 49% probability of a 75-basis-point hike.

While consumers have seemed relatively price insensitive up to this point, “two factors are likely to influence how much longer consumers can withstand inflationary pressure: real wages having turned negative and household savings built up during the pandemic being drawn down,” said Janus Henderson Investors’ director of research Matt Peron in a recent commentary. 

Peron also said that some national retailers have seen “emerging signs of consumers opting for lower-priced, private-label brands, and others have commented that foot traffic has begun to slow.”

For corporations, a warning sign of sorts came from S&P Global Market Intelligence on Tuesday. An analysis of investment-grade and non-investment-grade debt issuers showed U.S, companies’ cash ratios falling for a seventh quarter, “as rising cost pressures spurred the drawdown of inflated reserves.” (The cash ratio is calculated by dividing holdings of cash and equivalents by current liabilities.)

The median ratio at investment-grade companies declined to 21.5% at the end of March from 24.7% three months earlier, and at non-investment-grade companies the cash ratio fell to 34.1% from 38%. 

About the only solace to the Bureau of Labor Statistics inflation report was that the rest of the world suffers from the same problem. 

Multi-decade highs in inflation have triggered “a monetary tightening cycle that is increasingly synchronized: 75 central banks — or about three-quarters of the central banks we track — have raised interest rates since July 2021,” according to an International Monetary Fund Blog published on Wednesday. On average, they have done so 3.8 times. In emerging and developing economies, where policy rates were lifted sooner, “the average total rate increase has been 3 percentage points — almost double the 1.7 percentage points for advanced economies.”

The blog, written by IMF director Kristalina Georgieva, noted that “most central banks will need to continue to tighten monetary policy decisively.”