Inflation: Hot and Getting Hotter

A larger-than-expected pop in the November consumer price index may temper the Fed's willingness to loosen policy any further

By BW, Standard & Poor's, and Action Economics staff

As if the Federal Reserve didn't have enough headaches these days, inflation appears to be on the march after a long period of relative quiet. Case in point: The release of the U.S. consumer price index for November on Dec. 14. The headline CPI surged 0.8% on the month, while the core rate, which excludes food and fuel, rose 0.3%. Markets expected tamer rates of 0.6% and 0.2%, respectively, according to S&P MarketScope.

Boosting the rate, not surprisingly, was energy, up a huge 5.7% after a 1.4% push in October. Gasoline prices climbed 9.3% and are up 37.1% year-over-year. Transportation costs were up 2.9%. Housing costs rose 0.4%, with a 0.3% increase in owners' equivalent rents and a 1.5% gain in fuels and utilities.

Rounding out the ugly picture, apparel prices were up 0.8%, food rose 0.3%, and education increased 0.1%.

On a year-over-year basis, the headline rate accelerated to 4.3% from a 3.5% rate in October. The core rate was up 2.3% from 2.2%, and above the Fed's implicit 2% ceiling for inflation. The stronger than expected data will be a major concern for Treasuries and restrict the Fed's willingness to loosen, notes S&P Economics.

Action Economics expects the year-over-year headline CPI index to remain at 4.0% or above through at least February if energy prices remain at current levels. The figures proved as troublesome as the 3.2% surge in the November producer price index (BusinessWeek, Dec. 13) reported Dec. 13, accompanied by a firm 0.4% gain in the core PPI, and the jumbo November trade price gains released on Dec. 12.

Action assumes the same 0.8% headline gain for the personal consumption expenditure (PCE) chain price index in November with a 0.3% core gain. Huge gains in headline inflation will keep Federal Reserve policymakers on their heels regarding inflation risks, even if the market remains more interested in recession risks.

As could be expected, bond investors didn't appreciate another round of hot inflation data after a big pop in the November producer price index on Dec. 13. The November CPI release drove Treasury yields sharply higher in early trading Dec. 14, though some of the news was discounted in advance of the CPI figures. The dollar firmed following the hotter than forecast CPI data, while stocks appeared headed for a negative start.

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