January and February CPI and PCE figures raise concerns for the Federal Reserve's inflation management strategy
Markets are on edge once again after Fed Chair Jerome Powell signaled that the Fed is prepared to elevate interest rates at a faster pace if inflation continues to stick despite the Central Bank’s efforts to quell it. The change in the seasonally adjusted consumer price index M/M was up 50 BP in January (Exhibit 1), a change far larger than what the Fed was initially anticipating. Current Reuters polling and Refinitiv’s StarMine are projecting February’s change in CPI to be 40 BP (Exhibit 2); actual numbers are expected to be released later this month.
Exhibit 1: Economic Indicator | CPI MM, SA | Bureau of Labor Statistics, U.S. Department of Labor | Market Relevance
Exhibit 2: Date: 08-Mar-2023 | Period: Feb 2023 | Announcement Date: 14-Mar-2023 04:30
The core personal consumption expenditures (PCE) price index, the Fed’s preferred gauge of inflation, was up approximately 60 BP in January, a difference of 10 BP when compared to its CPI counterpart (Exhibit 3). Reuters polling suggests that this figure will rise 40 BP in February while StarMine is forecasting a 45 BP increase (Exhibit 4). This has prompted the Fed to reconsider the current approach it’s taking with interest rate hikes. The negative changes in these key macroeconomic indicators have caused interest rate speculators and futures traders to alter their expectations surrounding the Fed’s future interest rate hikes.
Exhibit 3: Economic Indicator | Core PCE Price Index MM * | BEA - Bureau of Economic Analysis, U.S. Department of Commerce
Exhibit 4: Poll Date: 21-Feb-2023 | Period: Jan 2023 | Announcement Date: 24-Feb-2023 05:30}
At the time this article was written, the current FFR was sitting at around +4.625% with the target at 4.75%. Markets place a 52.4% chance on the Fed raising interest rates by 50 BP and a 47.6% chance of interest rates being raised by 25 BP on 22-Mar-2023, the Fed’s next meeting date. Refinitiv centrally calculated these probabilities as implied from the market prices of interest rate derivatives. The implied FFR, taking these potential changes into account, is +4.957%. It is unclear as to whether the macroeconomy has fully processed the central bank’s previous interest rate increases. However, with inflation only continuing to climb and the labor marketing remain as strong as ever, it appears that the Fed’s work is not done yet.
Written by: Alan Torres, CIO at Sora Capital A.C.
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