Far from a target close to 0.2%, monthly U.S. "core" inflation remains problematic.
The decline in U.S. inflation in July sparked a somewhat naive enthusiasm among investors and a hasty political statement by Joe Biden. Conversely, the large increase of consumer prices in August caused a severe, even excessive, decline in equities and significant pressure on the US dollar yield curve.
Admittedly, year-on-year inflation eased to 8.3% thanks to the sharp decline in energy prices. However, the 0.6% monthly increase in the price index excluding energy and food is problematic for a central bank that aims for an annual inflation target of 2%, which calls for monthly changes of around 0.2% (never observed in 2022, and amply exceeded in August). The jump in “core” inflation highlights the secondary and delayed effects of the increase in commodity prices. With this in mind, it is to be hoped that the decline in commodity prices observed in recent weeks will eventually have a beneficial effect on inflation in the medium term. Ironically, “core” inflation is also being driven by the increase in housing costs resulting from the recovery in mortgage rates (which are used to estimate “owner’s equivalent rent”).
The unpleasant inflation numbers in the US have dashed any hopes that the FOMC will limit itself to a 0.5% Fed funds rate hike on Wednesday. On the contrary, some observers are daring to predict a 1% increase to which the CME’s “futures” attach a 20% probability. We seem to be heading towards a third consecutive increase in the Fed’s key interest rate of 0.75%, towards a target of between 3% and 3.25%. The quarterly update of the FOMC members’ forecasts will provide a clearer picture of the central bank’s intentions for the two upcoming meetings in 2022 and 2023. Without waiting for the famous “dot plot” to be unveiled on Wednesday, investors are now expecting monetary interest rates to peak around 4.5% next spring. In other words, investors seem well prepared and it is possible that a “relief rally” will follow the FOMC meeting, even if the economic, geopolitical and financial environment remains highly uncertain and unsafe.
The economic news is mixed. The decline in initial jobless claims (213,000 according to the latest weekly survey) reflects a robust labor market. Solid retail sales suggest that households have not capitulated despite the fall in real earnings. The latest survey from the University of Michigan shows a slight upturn in consumer sentiment and a decline in inflation expectations, which are likely linked to the decline in petroleum prices.
In Europe, the Bank of England is likely to move towards a second consecutive 0.5% increase in the base interest rate, towards a target of 2.25%, despite the severe decline in UK retail sales observed in August (-1.6% monthly, -5.3% year-on-year, in volume). In Switzerland, the SNB is expected to opt for a 0.75% increase in the deposit rate (from -0.25% to 0.5%) even though we do not face as acute an inflation problem as our Western partners. The quarterly frequency of SNB Board meetings tends to justify a large move to avoid the unwelcome weakening of the Swiss franc that could result from the expected interest rate hikes by the ECB (October 27) and the Fed (November 2). On the other hand, the Bank of Japan is expected to maintain an accommodative stance, which could fuel a sustained acceleration of inflation towards the 2% target.
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