Neil Irwin reminded us yesterday morning that a lot of hopes are riding on inflation easing this year. But it hasn’t happened yet—or over the last year.
Consumer prices surged more than expected over the past 12 months, suggesting a bleak outlook for inflation and increasing the likelihood of more than a few interest rate hikes this year.
The CPI (all urban index) rose 7.5% in January over a year ago, the Labor Department reported yesterday—the highest since February 1982. Economists were expecting an increase of 7.2%.
The so-called core CPI, which excludes volatile food and energy prices, increased 6%, compared with the estimate of 5.9%—its highest since August 1982.
Friday’s latest government jobs report shows two ongoing trends:
First, with employers adding 428,000 in April, the economic rebound from the brutal pandemic seems to be holding together.
And second, as shown in the chart above, the level of the job rebound since the early days of the pandemic continues to depend on what industry you work in.
On the one hand, April’s seasonally adjusted figures are virtually the same as March’s, according to the Labor Department, with the growth in jobs broad-based across every major industry.
The average mortgage rate is up 80bps or 50% in just over one week. As a result, applications for a mortgage are now roughly half the level they were one year ago.
Homebuilder sentiment is at a two-year low. And online real estate companies Redfin and Compass have announced layoffs of 8% and 10% of their workforces, respectively.
What can go wrong in the housing industry?
Before anyone had time to fully explain June's inflation numbers, the growls had already begun on trading desks and research shops:
Maybe in two weeks the Fed will raise interest rates by a full percentage point — the most at a single meeting in its modern history.
This increasingly likely scenario shows the jam the Fed has gotten itself into, with Fed officials seeking to express to the country a whatever-it-takes attitude. Neil Irwin and Courtenay Brown say that’s put them in a corner.
It’s a precarious situation where high inflation reports demand a mounting series of interest rate hikes and other policy moves that end with reduced consumer and business spending and a cratering economy.
Just last month, a high May inflation reading drove Fed leaders to make a last-minute shift to raise interest rates by 75 basis points, not the 50-point increase they had been signaling.
Well, here we go again. Wednesday's BLS report showed a 9.1% rise in the Consumer Price Index over the last year — and perhaps more significantly, the uptick of monthly core inflation to 0.7% in June.
And yesterday’s Producer Price Index, which essentially reflects wholesale prices charged to retailers, was even higher – at 11.3%.
It was a "major league disappointment," as Fed governor Christopher Waller said in a speech afterwards. The stock markets agreed.
The reports set off alarm bells throughout the financial world that recent history would repeat itself and, by day's end, the CME futures markets would almost fully price in a one-percentage-point rate hike at the end of the month.
Debate is flourishing on Wall Street and at Main Street kitchen tables over the Federal Reserve's fight to lower inflation and how high unemployment will jump as a result.
On the one hand, Fed policymakers believe its rate hikes will eventually drive down strong demand in the economy without causing too much pain in the job market – in other words, a soft landing.
On the other hand, influential economists like Larry Summers say the Fed's ideal outcome hasn't materialized before, and there's no reason to think it will now.
The fight is being debated in various academic papers, but the real stakes for workers and their families are high.
Courtenay Brown and Neil Irwin write today that the issue “is not whether unemployment rises, but by how much as the Fed tightens.”
They believe the crux of the debate is the inverse relationship between unfilled job openings and the unemployment rate.
Other things being equal, as job vacancies rise, unemployment falls and vice versa.
As of May, job openings trended lower but remained near their highest levels ever at 11.3 million.
Plus, the headline unemployment rate is holding near a half-century low (remember, the headline rate is significantly underreported).
The result is an unprecedented 1.9 job openings for each unemployed worker.
Americans expect inflation to drop precipitously over the next three years, according to the New York Fed.
And Neil Irwin says “that's great news for anyone who doesn't want current prices to become the new normal.”
The NY Fed’s July Survey of Consumer Expectations, released today, shows marked drops in how households expect inflation to be across a variety of time horizons.
History shows that the higher we expect inflation to be, the more likely it becomes a self-fulfilling prophecy as businesses feel more comfortable raising prices and workers demand steeper wages.
In that sense, Irwin says falling inflation expectations “are a welcome sign that the high inflation of the last year is not causing a long-lasting shift in Americans' psychology around money.”
But inflation expectations in the July survey remain far above the levels that we saw in the years before the pandemic and are above the 2% inflation rate the Fed target.
In fact, consumers expect inflation to be 6.2% over the next year. That’s down from 6.8% in June and is the steepest one-month drop since the survey began nine years ago (CPI rose an annual 9.1% in June).
The potential good news lies in expectations over the next three years having fallen to 3.2% from 3.6%, and 5-year expectations to 2.3% from 2.8%
Irwin reports that the drop was most evident among survey respondents making less than $50,000.
He surmises that’s a possible reflection of those consumers, who were most affected by soaring oil and gasoline prices, seeing relief at gas pumps last month.
Fed chair Jerome Powell mentioned the NY Fed's results as a reason to continue aggressive rate increases at the Federal Open Market Committee’s June policy meeting.
Thus, Irwin believes the falling expectations “will likely give comfort to the central bank.”
And oh what a week it’s been. Let’s go back to last week for a minute. Last Tuesday the market capped off a blistering to week run, by having the S&P run “smack dab” into its 200 day moving average. Now a lot of people will tell you that the 50 and 200 day moving averages don’t carry as much weight as they used to, but they still carry some clout.
When the S&P hit that 200 day, that whole two week climb came to a screeching halt and we started heading down a bit, but nothing major. Until Friday. Friday the wheels fell off and we plunged. That carried into Monday of this week as the market puked for another big drop. Tuesday and Wednesday the market sort of “ran in place” trying to figure out if they had over reacted on the big sell down.
Meanwhile over in Wyoming at the Jackson Hole economic meeting, all the movers and shakers were talking about the economy, inflation, and interest rates. Despite several fed heads telling folks that they think rates must go higher, most of the talking heads began to tell folks that it seemed the Fed might only do a 50 basis point hike at its next meeting. (Hogwash, you’ll see why)