June saw an unwelcome spike in U.S. inflation as prices rose 1.3% over the previous month. That’s an unusually large monthly jump, even in the current environment of surging prices. The jump has prompted markets to speculate that the Fed may increase interest rates 1% at their upcoming meeting, a very large hike.
Looking forward the picture is mixed, but there are some early, encouraging signs that inflation may be coming under control. Of course, the bad news is that taming of inflation could well involve a recession.
CPI data is always a slightly lagging indicator. We can see may prices in real time to know what’s happened in the weeks since June. The S&P GSCI Commodity Index, which tracks a basket of commodities has now fallen 20% from its June peak, back to levels we saw in February of this year.
That may be good news for lower inflation since surging commodity prices were one of the early events of this inflation crisis. However, commodity prices are volatile and U.S. inflation has now broadened to price rises well beyond commodities. So it will take more than a move in commodities alone to bring down inflation. Still commodities could prove a drag on inflation over the coming months if current pricing holds or moves lower.
Falling Bond Yields
Since June we’ve also seen bond yields decline. The yield on the U.S. Treasury 10 year bond approached 3.5% in June, but now is under 3%. Many factors impact bond yields, but certainly expectations for inflation and interest rates are one of them. Bonds are perhaps suggesting that inflation is now less of a concern. Though unfortunately, as with commodity prices, the move may signal both that inflation is likely to be tamed, but also that a recession may be on the way too.
The Puzzle Of House Prices
Once concern for the CPI data though is house prices. Yesterday’s report had the cost of shelter in the U.S. rising 5.6% over the past 12 months. This matters as it’s a large component of the CPI index. The change in price that the CPI index finds for housing is much lower than many other sources. For example, in contrast, Zillow has U.S. house prices rising almost 20% over the past year. If house prices in the CPI data caught up with what many real estate specific sources are seeing, then inflation could move higher still.
So June’s CPI number was certainly an unwelcome surprise and may prompt the Fed to be more aggressive in hiking interest rates. However, commodity price declines since June and falling bond yields over the same period, suggest that the markets may increasingly believe inflation has peaked.