E-piphany

Below is a summary of my post-CPI tweets. You can (and should!) follow me @inflation_guy or sign up for email updates to my occasional articles here. Investors with interests in this area be sure to stop by Enduring Investments. And sign up to receive notice when my book is published! The title of the book is What’s Wrong with Money?: The Biggest Bubble of All – and How to Invest with it in Mind, and if you would like to be on the notification list to receive an email when the book is published, simply send an email to WWWM@enduringinvestments.com.

Also note that I have been invited to be a guest on “What’d You Miss?” today at 4pm ET. Catch it!

• Core CPI +0.1%, but y/y stays at +1.8% as it was a “soft” 0.1%. Specifically 0.07%, weaker than expected.
• Core services remains +2.6%; core goods -0.5% y/y.
• The -0.5% drag in core goods remains about what we can expect from the dollar’s current strength.
• But remember core goods is the smaller part of core inflation (and the more volatile part).
• Bottom line on Fed has been: plenty of argument either way. This number doesn’t affect the argument either way. Doves will be doves.
• No idea if Fed hikes tomorrow, but SHOULD have removed extraordinary accommodation when extraordinary risks were past. Years ago.
• Speaking of housing: Primary rents 3.62% from 3.56%; OER at 3.02% from 3.00%. This acceleration will continue.
• Lodging away from home is a small piece (0.8% of total CPI) but always fascinates me. 1.7% y/y versus 5.7% six months ago.
• Medical care was unch, 2.47% vs 2.49%, but pharmaceuticals was 3.5% vs 3.2% while professional services 1.7% vs 2.1%.
• The weakness in medical care continues to be the main story holding down core vs median, since 2013.
• Motor fuel of course a big drag on headline, but New and used motor vehicles also still weak (a dollar effect): -0.1% vs +0.2%.
• I actually think Median stands a decent chance of an 0.2% month, based on my back-of-the-envelope calculation.
• If I am right, then Median may be at the highest level since the crisis ended. Currently 2.28%; 2012 high was 2.38%.
• We won’t know for a few hours and my calculator doesn’t seasonally adjust the regional housing indexes so don’t take that to the bank.
• But even if median just stays at 2.3%, that’s consistent with PCE inflation being at the Fed’s target.
• Really looking forward to this: On Bloomberg TV at 4pm ET with Joe and Alix.
• Good time to mention my book “What’s Wrong with Money: The Biggest Bubble of All” due out in Feb. Can preorder: http://amzn.to/1YbJT0p
• We don’t even have cover art yet! But the manuscript is done.
• Much more interesting discussion [than OER] is medical care. MUCH harder to measure than OER, because consumers don’t pay for it directly.
• We all know insurance costs are going up, but part of this is a price effect and part is a utilization effect.
• Part of the effect of the ACA is to get people to consume less health care by making them pay for smaller costs directly.
• …of course, that lessens overall welfare since your tradeoffs are worse. But I don’t want to get too ‘inside baseball’ in 140 char.
• BTW, it occurs to me I never mentioned y/y core CPI is 1.83% from 1.80%, so it rose a smidge even though a weak core #.

There wasn’t a lot that was new or different in this figure. Housing continues to be the main strain on consumer budgets, as housing costs continue to rise and, given the rise in housing prices generally, this ought to continue. On the other hand, the main drag to core continues to be in the core goods component, and this ought to continue for a while. However, I don’t believe it will intensify, so for a while core (and more importantly, median) inflation will just creep up gradually. At some point, core goods will revert higher, and at that point core inflation will move with more alacrity. The timing on this appears somewhat far off, however.

That said, two other points need to be made today.

The first point is that the Federal Reserve will either raise rates tomorrow, or they will not, and this number has virtually no bearing on that. This Fed does not care very much about inflation, which is why they focus on a number (core PCE) which is not only the softest of the available series but also currently is very clearly too low based on a number of temporary effects. Core PCE has a lot to recommend it theoretically. But myopic focus on it (and any discussion at all of headline inflation, which is near zero only because of the oil price crash) can only mean that Federal Reserve policymakers are biased to be doves. But we already knew that. Moreover, if the Fed raises rates tomorrow and does it without removing the quantities of excess reserves in the system, they really aren’t doing much. At least, not much that is helpful.

The second point is that the inflation market continues to price dramatically different inflation over the next few years than we are likely to get. Either energy prices are going to continue to crash – in which case buoyant core inflation will still result in low headline inflation, which is what trades in the market – or they are going to stop crashing, in which case inflation expectations are far too low. There is virtually no chance that core inflation declines any time soon. I can make a case that core will only converge to near median, and then go flat, but unless housing collapses suddenly and unexpectedly core inflation is not going lower. (Of course, one-off effects like the medical care effect can still pervert the core numbers from time to time, which is why I focus on median, but this is inherently difficult to forecast and the one-off effects of course might also be in the upward direction).