US CPI Preview: Headline and core inflation stable

The US Department of Labor will publish its Consumer Price Index report for December on Friday January 11th at 8:30 am EST, 13:30 GMT.

Predictions: Inflation just over the Fed target

The annual consumer price index is forecast to remain at 2.2% in December and the monthly rate is expected to have fallen 0.1% from flat in November. The 12-month core CPI rate which excludes food and energy price is also predicted to been stationary at 2.2% as in November and the monthly rate unchanged at 0.2%.

The overall annual inflation rate has fallen sharply in the past five months after reaching 2.9% in June and July the highest since February 2012, as crude oil prices have tumbled. From a high of $76.80 in early October West Texas Intermediate had fallen 45% to $42.54 by December 24^th.  The month to month rise in inflation averaged 0.2% from July to October.  WTI has since recovered almost half of its losses closing at $52.43 on Wednesday January 9^th.

The core rate has seen less variation this year. It touched 2.4% in July which has been the highest since October 2008. Monthly rates have shifted in a narrow range between 0.2% and 0.1% since January.

Federal Reserve policy, inflation and the dollar

The Fed has pulled back from its aggressive rate normalization of 2018. The Projection Materials issued with the December FOMC decision estimate two 25 basis point increases in 2019, down from three in September. The year-end rate forecast is now 2.9% rather than 3.1%.

Several regional Fed Presidents have reinforced the central bank’s new caution on rate policy. In speeches and interviews over the past days they have stressed that with inflation contained and a long list of economic and political challenges around the world the FOMC can afford to be patient with further rate increases.

Stable prices are one of the Fed’s two Congressionally mandated charges, the other is employment. The Fed and its economists follow inflation through the core personal consumption expenditures price index, the core PCE for short. This is a more modern version of the consumer price index, which as with the core CPI excludes volatile food and energy prices to focus on underlying price trends.

Historically the Fed’s role has been to control inflation to keep it from getting to far above its 2% target. Since the financial crisis and recession decade ago that has reversed. The central bank has been at pains to bring inflation up to the 2% target.  Its success has been mixed. For most those ten years inflation, specifically the core PCE gauge has been well below the 2%. In August and September of this year it reached 2% for the first time since 2012. It was 1.9% in November.  

Inflation at or near the 2% target and 3% economic growth gives the Fed leeway on rates. The minutes of the December 18-19^th FOMC released on Wednesday noted that many participants thought that the bank could afford patience on rates and that future policy should be guided by incoming data, see our story by Eren Sengezer.

US Dollar

The dollar has been backed since mid-summer by the Fed's aggressive rate normalization policy and the demand for safety assets as Brexit, the Italian budget, the US-China trade dispute and equity declines have roiled global markets.  The euro has fallen from 1.2500 in mid-March to below 1.1300 before its recent recovery. The yen has dropped from 105.00 to above 114.00, it has since risen to around 108.00

The Fed’s new caution on interest rates has reduced the dollar advantage. But with the European economy continuing to weaken, a chaotic Brexit approaching, and the US still growing smartly the change in rate circumstances is unlikely to seriously diminish the dollar’s strength.