August 10, 2022 |
Updated August 10, 2022
- U.S. consumer prices were flat on a monthly basis, the best reading since May 2020 when pandemic-induced factors were causing prices to decline.
- Several measures of inflation expectations have begun to contract, a sign that both consumers and markets see a light at the end of the tunnel.
- The pause in price increases will not cause the Fed to stray from its stated path while the labor market is as hot as the July jobs report revealed.
CPI, Latest Release, July 2022
Inflation surprised in a pleasant way, rising 8.5% year-over-year, below consensus forecasts. Prices were flat on a monthly basis, the best reading since May 2020 when they were actually dropping. The breather in price hikes was due to energy prices, which fell 4.6% over the month. Food prices continued to climb, however, notching another increase in excess of 1.0%. Core CPI rose 0.3% over the month, slower than the prior 3 months, but disturbingly high for prices that are considered to be more “sticky.” The largest increases in core CPI were car insurance (1.3%), car maintenance and repair (1.1%), and rent (0.7%).
CPI for Housing, July 2022
The CPI includes two measures for shelter costs: owners’ equivalent rent and rent of primary residence, both of which are self-reported. Together, they comprise about one-third of CPI. Owners’ equivalent rent, which is the price owner-occupiers think they could attain if they rented their homes, increased 5.8% while rent of primary residence was up 6.3% year-over-year, another 36-year high. It’s important to note that both measures lag actual changes in housing costs as the data are collected less frequently than other components of the CPI, so their peak has likely yet to be seen. Private sector sources for rent, which often only include new leases in larger, professionally managed properties, averaged about 12% year-over-year, in June and July.
Alternative Measures of Inflation, June 2022
The core Personal Consumption Expenditures (PCE) Index is the measure of inflation the Federal Reserve Bank uses in its policy decisions. It is produced by the Bureau of Economic Analysis and uses different formulas, different weights and has a different scope compared to the Bureau of Labor Statistics’ (BLS) CPI.
The core (excluding food and energy) PCE receded from its 40-year highs earlier this year, but ticked up slightly, remaining elevated at 4.8% year-over-year. On a monthly basis, prices jumped 0.6%, the highest level in more than a year and certainly unsettling for the Fed. Motor vehicles and parts, as well as housing and utilities costs, have been consistently responsible for the greatest price increases.
Inflation Expectations, July 2022
The Fed tracks 21 different measures of inflation expectations. The two measures presented in the chart below are from the University of Michigan’s Consumer Sentiment Survey, specifically the question asking about one-year inflation expectations; and the five-year, five-year forward rate, which measures inflation expectations from the period beginning five years from today for the subsequent five years, based on both nominal and inflation-adjusted five- and 10-year Treasury rates.
The University of Michigan’s measure has declined slightly over the past 3 months as consumers see some relief at the gas pump. The bond market measure shows that investors are expecting lower rates of inflation in the long term compared to recent months. Other measures of inflation expectations, such as the New York Fed’s Survey of Consumer Expectations, showed even sharper declines in July.
Wage Growth vs. The Employment Cost Index, Q2 2022
The Employment Cost Index (ECI) is a quarterly measure of the change in the costs of labor. Unlike average hourly earnings, the series typically used for wage growth, the ECI calculation is not impacted by the change in employment levels among occupations and industries which can significantly skew wage levels. It also includes the costs of benefits to employers. The ECI is considered a purer measure of labor costs and is closely watched by the Fed.
The ECI for private sector workers surged to a 5.5% year-over-year increase last quarter, the highest rate since 1984. All components of the index: wages, compensation and benefits, continued to experience healthy gains, although benefits cost growth slowed down somewhat from the prior quarter. While some firms have announced layoffs or hiring freezes, the vast majority continue to add to their payrolls, as evidenced by July’s stellar jobs report. Until the labor market cools down, employment costs will remain well above average.
What to Watch in the Next Month
- Right now, the major debate among “Fed-watchers” seems to be whether the next rate hike will be 50 or 75 basis points. But the Fed will not reconvene until the third week in September, meaning it will have an additional jobs report, several wage and inflation measures, and the second estimate for Q2 GDP to analyze for its policy decisions.
- While the July CPI report was promising, it is only one month of data. Inflation remains painfully high, outstripping income growth for many consumers. Russia’s prolonged war on Ukraine, muted global growth and lingering pandemic effects continue to pose downside risks to the economy.
Next Tracker: September 13, 2022