The US consumer price data that were released on Tuesday provided an interesting lead-in to the Fed's latest rate decision. The BLS data showed that headline CPI rose 0.1 percent in November (vs. expected 0.3 percent), dropping the year-on-year rate to 7.1 percent (vs. expected 7.3 percent). The headline number was heavily influenced by a further 2 percent fall in energy costs, but given that energy costs accounted for so much of the inflation spike earlier in the year, this is not surprising.
Food prices continue to rise, albeit at a lesser pace than a few months ago: the 0.5 percent increase seen in November means that overall food prices stand 10.5 percent higher than a year ago. Excluding energy and food, CPI rose 0.2 percent in the month, meaning that this measure of core inflation rose 6.0 percent from November 2021.
While acknowledging the evidence that inflationary pressures seem to be on the wane, media reports on the data continue to focus on the year-on-year figures. This approach is becoming less logical with each passing month. A glance at the top line of the data table in the BLS release shows that month-on-month headline CPI increases since July have averaged just 0.2 percent, which means that on an annualized basis, headline CPI has been not far above the Fed's 2 percent goal for almost half a year.
Given the recent CPI data, then, the key question going into the FOMC announcement was this: would the Fed continue to fret about the elevated the year-on-year inflation numbers, which largely reflect price developments many months ago that the Fed obviously cannot do anything about, or would it unequivocally switch its focus to the emerging story of much lower inflation? The answer, it turns out, is continued fretting.
Although the hike in the Fed funds target this time was 50 basis points rather than the 75 bp that we have become accustomed to, much of the rhetoric in the press release indicates that the Fed still thinks it has more work to do. "Inflation remains elevated", which it does, but only if you look at the year-on-year data rather than the more recent monthly prints. "The Committee anticipates that ongoing increases in the target range will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2 percent over time", a view that appears to ignore the fact that the running rate of inflation over the past five months is already not far above that 2 percent target.
There is no real sign of any real pivot in the Fed's policy approach there. It need hardly be said that this is not the kind of release that equity markets were expecting after the CPI data were published, so it is no surprise that stocks sold off after the announcement. The "dot plot" in the newly-released Summary of Economic Projections shows that an overwhelming majority of the FOMC expects the funds target to top 5 percent in 2023, which implies there is at least one more 50 bp rate hike to come. One FOMC member expects a rate target above 5 percent to continue right into 2025.
Those of us who complained that the Fed waited far too long to start the tightening cycle were vindicated by the spike in inflation that persisted into the first half of this year. It seems more than likely that the Fed is making an equally serious error now, in continuing to tighten when there is plenty of evidence that the inflation battle is already won.
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