US April CPI: hold your applause

It's the headline number that has dominated the headlines today. The BLS reported this morning that US headline CPI rose 4.9 percent in the year to April. That's down from 5.0 percent in March and marks the lowest year-on-year increase since April 2021. 

Sad to relate, the good news really starts and ends with that headline figure.  For some time, I have been saying in this blog that the monthly changes are much more important to analyze and understand than the annual figure. Inflation on an annual basis has fallen steadily for almost a year, mainly thanks to the "base effect". The annual number is literally old news: most of it reflects actual price movements that took place many months ago. Particularly in early 2022, there were very large increases in CPI from month to month, resulting in rapid growth in annual headline CPI number.  As those monthly numbers began to ease around mid-2022, the annual rate began to fall, slowly but steadily. Media reports that focused on the annual number routinely missed the fact that the monthly numbers were starting to look a lot less threatening. 

Now the shoe is on the other foot. Last year's jumbo monthly increases are now largely out of the annual headline calculation, so the annual increase is more accurately reflecting the impact (or lack thereof) of the the Fed's tightening actions. This is where today's report is disappointing for anyone who is tempted to believe the Fed's job is largely done. Both headline and core (ex food and energy) CPI rose 0.4 percent month-on-month in April. That annualizes to just over 5 percent for both indices, obviously far above the Fed's 2 percent target. The easy part is over: getting inflation down to the target rate, with no further assistance from the base effect, is going to be a slow process. 

There is further cause for concern in the details of the data. The big surge in inflation in 2021 and 2022 was largely attributable to rises in goods prices, reflecting first COVID-related supply chain issues and later the impact of the Russian invasion of Ukraine. It has always been arguable (and has been argued here) that Fed interest rate hikes are the wrong tool to use to combat such inflation. 

Now, however, goods price inflation is clearly ebbing. Energy and other commodity prices are no longer rising, and even the previously stubborn food at home index has started to move lower in the last two months.  However, prices for services are now becoming a headache for the Fed. Overall service prices are up 6.8 percent from a year ago, led by an 8.1 percent increase in shelter costs, and the monthly numbers show no signs of slowing. 

As a colleague of mine used to say, "you can't go to Beijing for a haircut". Or to Kyiv, for that matter. Inflation in services prices is home-grown, and the Fed will be watching anxiously in the next few months to see if its past policy actions will finally start to have an impact.