US: Core inflation will rise only gradually – Nomura

Analysts at Nomura note that the US core CPI inflation decelerated to 0.182% m-o-m in February, from 0.349% in the previous month and as Nomura had expected, certain price indices which increased strongly in January showed negative payback.

Key Quotes

“Used vehicle prices declined 0.3% and volatile hospital services prices dropped 0.5%. However, apparel prices showed another sizable advance of 1.5% following a 1.7% increase in January. We had expected a more moderate increase in apparel prices. That said, we do not think this back-to-back gain is the beginning of a new upward trend. When initially reported, CPI apparel prices tend to be higher in January and February, but lower in November and December. They are often revised in the opposite direction at annual revisions which incorporate new seasonal factors. This implies that seasonal adjustment by the BLS may not capture an emerging seasonal pattern of apparel prices in real time.”

“The fact that the yo-y change in apparel prices has just come back to a slightly positive reading suggests that the underlying trend of apparel prices has not changed materially. Another short-term transitory factor is auto insurance prices, which jumped 1.7% m-o-m, following a 1.3% increase in the previous month. However, this metric is estimated based on a small sample and tends to be volatile in the short run. We do not think that the recent inflation of auto insurance fees is sustainable.”

“However, for February, two components could have the potential to affect our mediumterm inflation outlook: rent and vehicle prices. Regular rent inflation slowed markedly in February to 0.2% (0.204%) m-o-m, from 0.3% (0.340%) in January, while homeowners’ equivalent rent also decelerated to 0.2% (0.197%), from 0.3% (0.277%). We saw a similar blip in September 2017 but at that time the weakness was concentrated in the West. In contrast, in February, regular rent inflation slowed in all four regions. We have argued for a while that an oversupply of rental housing in large cities will likely exert downward pressure on rent inflation.”

“Corroborating our view, CPI’s rent inflation in large cities (Size Class A) has slowed in recent months while picking up in small cities (Size Class B/C). The pickup in small cities is consistent with continued improvement in the rental housing vacancy rate for one-unit structures (single-family houses) which are more concentrated in suburban areas and small cities. Conversely, the rental vacancy rate for buildings with five or more units, more commonly located in large urban areas, has deteriorated in recent quarters. Used vehicle prices resumed their decline of 0.3% m-o-m after four consecutive monthly increases as the temporary boost from hurricane recovery efforts in the South waned. Given continued deterioration in subprime auto loan performance, higher interest rates and a surge in off lease and off-rental vehicles in used markets, we think that vehicle prices will remain a drag on core inflation.”

“February core PCE inflation forecast

Although PPI and import prices for February have not been released yet, under some reasonable assumptions, we estimated core PCE inflation for the month. Our forecast for m-o-m core PCE inflation is +0.2% (0.152%) which would translate into y-o-y inflation of 1.5% (1.50%), essentially unchanged from 1.52% in January. Note that our PCE forecast may be subject to revision following the PPI and import price data releases.”