US inflation remains elevated and appears on track to remain so for the immediate future. There are hints in some corners that the annual pace of consumer inflation will ease. Still, the modest optimism for this outlook, which is based on previously published data, is complicated if not eradicated due to the rising fast-moving Ukraine-Russia crisis.
Let’s start with the upbeat data. The following charts compare US consumer inflation at the headline level (CPI) with several indicators that offer some forward guidance. In the graph below, the Producer Price Index for all commodities has peaked on a year-over-year basis. The implication: as input prices ease, the shift will take some of the pressure of consumer inflation in the months ahead.
Another factor that may bring a degree of relief from the recent surge in consumer inflation: a reversal in the extraordinary monetary stimulus of late. Changes in monetary policy affect inflation with a lag and so the next chart compares base money supply (a.k.a. M0 money supply) on forward 12-month basis. On this basis, the recent deceleration in M0’s annual growth rate suggests a softer pace of CPI in the near-term future.
Oil prices are a key input for headline inflation. Looking at the US benchmark for crude oil – West Texas Intermediate (WTI) – on a forward three-month basis also points to a modest reversal in CPI’s annual pace in the near term.
The sharp increase in shipping costs over the past year captures the supply-chain disruptions that have been a factor driving inflation higher. One measure of shipping activity is pointing to easing pressure, based on Cass Freight Index: Shipments Index. Looking at this benchmark on a forward 6-month basis suggests a softer run of consumer inflation in the months ahead.
Financial markets appear to be pricing in a pause in the recent acceleration in inflation momentum. Using the ratio for a pair of ETFs — iShares TIPS Bond ETF (NYSE:TIP)/ iShares 7-10 Year Treasury Bond ETF (NYSE:IEF). A rising trend for this ratio suggests the market is pricing in a stronger reflation/inflation trend; a decline suggests the opposite. By that standard, this indicator shows that the strong upside pressure for inflation has shifted to a holding pattern this year.
The surge in geopolitical uncertainty in recent days threatens to complicate the outlook for inflation and monetary policy. Fed Governor Michelle Bowman recognized the elephant in the room earlier this week. She said on Monday:
“The Federal Reserve pays very close attention to geopolitical events, and [the Ukraine-Russia crisis] of course in particular as it’s the most prominent at this point. Obviously we’ll continue to watch that, and if we believe that might have some influence on the global economy, we’ll take that into account as we’re going into our meetings and discussing the economy more broadly.”
Meanwhile, the Capital Spectator’s Inflation Trend Index (ITI) continues to indicate that pricing pressure remains elevated in February. After modest easing in December and January, ITI’s median estimate for this month rebounded (black line within boxplots in chart below), suggesting pricing pressure doesn’t appear to be peaking at the moment. Note that ITI is designed as a broad measure of the pricing trend and is not intended to estimate CPI or other official inflation gauges.
Due to the growing threat of a Ukraine-Russia war, the potential for higher energy costs is on the rise, which in turn would lift headline inflation. Neil Shearing, from Capital Economics, writes:
“In normal times, central banks would tend to look through an energy-led rise in inflation, but given the current high rates of inflation, and corresponding concerns about it feeding higher inflation expectations, it’s possible that this adds to the list of reasons for policymakers to raise interest rates,”
The inflation outlook for the foreseeable future, in short, will be closely linked to the ebb and flow of events in Ukraine. As a result, estimating pricing pressure for the near term will remain unusually uncertain as the potential for a spike in oil prices lurks until war clouds recede.