In December, the consumer price index (CPI) in the United States rose by 3.4% year-over-year (YoY), marking the highest increase in three months, as reported by the U.S. Bureau of Labor Statistics (BLS).
As expected, the hotter-than-expected print led to a cautious response in the financial markets.
The concern stems from the CPI climbing more than expected in December, prompting speculation that the Federal Reserve might maintain its hawkish interest-rate stance for a longer duration than previously anticipated.
Stronger-than-expected CPI for December
In December, the Consumer Price Index (CPI) increased by 0.3% month-over-month (MoM), surpassing the median estimate of 0.2% from 68 economists, according to the data compiled by Bloomberg.
On a year-over-year basis, the CPI rose by 3.4%, exceeding the estimated 3.2%. The core CPI, excluding food and energy, also rose by 0.3% MoM, meeting expectations. On a YoY basis, the core CPI increased by 3.9%, slightly higher than the estimated 3.8%.
“The progress on inflation since June 2022 has been remarkable,” said David Kelly, chief global strategist at J.P. Morgan Asset Management. “The bottom line is that the most likely path for inflation from here is not upwards or sideways but rather down.”
Notable changes include a 0.2% increase in the food index, a 0.4% increase in the energy index, and a 0.5% rise in the shelter index. Owners' equivalent rent of residence increased by 0.5% in December, contributing to a 6.3% year-over-year increase.
According to BLS, the shelter index experienced a continued rise, contributing to more than half of the overall monthly increase in all items. The energy index increase was driven by higher electricity and gasoline indexes, offsetting a decline in the natural gas index.
The food index increase mirrored the previous month. Food at home increased by 0.1%, while food away from home rose by 0.3%. The index for all items, excluding food and energy, also rose by 0.3% in December, matching the previous month's increase.
Categories such as shelter, motor vehicle insurance, and medical care showed increases, while household furnishings and operations, along with personal care, decreased. The energy index decreased by 2% over the 12 months ending December, while the food index increased by 2.7% over the same period.
A separate press release from BLS showed that real average hourly earnings for all employees saw a 0.2% increase in December. This growth is attributed to a 0.4% rise in average hourly earnings, coupled with a 0.3% increase in the Consumer Price Index for All Urban Consumers.
However, real average weekly earnings experienced a 0.2% decline during the same period, driven by the change in real average hourly earnings and a 0.3% reduction in the average workweek. On a yearly basis, from December 2022 to December 2023, real average hourly earnings witnessed a 0.8% increase, seasonally adjusted.
The change in real average hourly earnings, combined with a 0.3% decrease in the average workweek, contributed to a 0.5% growth in real average weekly earnings over this twelve-month period.
What Does It Mean for Markets?
Thursday’s CPI report came in slightly higher than anticipated, fueling bets that the Federal Reserve may not start cutting rates until at least May this year. However, it is noteworthy that the trend of easing inflation persists, supported by several leading indicators pointing towards softness.
Unemployment claims remain low, reflecting subdued temporary seasonal hiring in November and December. These data releases imply a potential temporary increase in Treasury yields and inflation expectations, while a more prolonged move could definitely hurt stocks.
“These are not bad numbers, but they do show that disinflation progress is still slow and unlikely to be a straight line down to 2%,” said Seema Shah, chief global strategist at Principal Asset Management.
“Certainly, as long as shelter inflation remains stubbornly elevated, the Fed will keep pushing back at the idea of imminent rate cuts.”
Futures traders maintained a significant likelihood of the Fed initiating interest rate cuts in March. The CME Group's FedWatch gauge indicated a 63% probability of a reduction in March, slightly down from the previous day. This probability underscores a divergence in expectations between the market and the Fed regarding the timing and extent of rate cuts in 2024.
The investment banking giant UBS said earlier this week that it expects the Fed to cut rates by 100 basis points this year.
“Our base case scenario is for a soft landing, in which growth slows to just below trend, a US recession is avoided, inflation falls toward central bank targets by the second half of the year, and the Fed cuts interest rates by 100 basis points,” their strategist Solita Marcelli wrote in a note on Monday.
Summary
Inflation strengthened as 2023 concluded, with the CPI rising 0.3% in December from the previous month and 3.4% from a year earlier, according to the Labor Department. This marks an acceleration from November's 0.1% monthly gain and 3.1% annual increase. Thursday’s print has fueled uncertainty surrounding the Fed’s next moves with the central bank’s officials now likely to push back against expected rate cuts in March.
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Shane Neagle is the EIC of The Tokenist. Check out The Tokenist’s free newsletter, Five Minute Finance, for weekly analysis of the biggest trends in finance and technology.