Inflation

WHERE IS INFLATION

Let’s start with the basics. The Consumer Price Index, the well known CPI, came in at 0.3 percent in December on a monthly basis, and 2.7 percent year over year.
Exactly what analysts were expecting. Neither better nor worse. Fair. And that is good, because at least there was no negative surprise.

If we now remove the most volatile categories, namely food and energy, we get the Core CPI. There, inflation rose just 0.2 percent month over month and 2.6 percent year over year.

Both of these figures were slightly better than analysts’ estimates. This points to a restrained but steady path of disinflation.

What does this mean?

That overall, inflation in the US continues to ease. Not at a spectacular pace, but steadily. And in a world full of uncertainties, that word carries a lot of weight.

Let’s also look at the individual components.

The biggest contributor to inflation once again was housing costs, which rose 0.4 percent in a single month.

We saw a similar increase back in August. Housing remains stuck at elevated levels and keeps pushing the overall index higher. The problem here is that housing represents a very large share of the CPI, more than one third of the total index. As long as it stays high, inflation cannot fall significantly.

Energy prices also rose 0.3 percent, mainly due to small increases in oil prices, although gasoline posted a slight decline. Food prices, on the other hand, recorded the biggest increase at 0.7 percent, mainly due to higher prices in basic goods, although there were exceptions. Eggs, for example, fell 8.2 percent in just one month.

On the flip side, prices of used cars dropped 1.1 percent and were one of the main reasons Core CPI stayed low. The same goes for communication services, where prices fell 1.9 percent.

THE FED’S STANCE

And what does all this mean for the Fed?

First of all, let’s remember that the Fed’s inflation target is 2 percent. Right now, we are at 2.6 percent on Core and 2.7 percent on headline inflation. So we are close, but not there yet.

And here comes the critical question. Will the Fed cut rates in January?

The answer is clearly no.

And that is not my opinion. That is what the market says. According to the CME’s FedWatch tool, there is currently only a 4.4 percent probability of a rate cut by the end of the month. The market is now pricing the first potential rate cut sometime around June.

And to be fair, if you also look at the labor market, which remains stable and relatively strong, there is no urgent reason for the Fed to act immediately.

WHAT ANALYSTS ARE SAYING

David Russell says the data show that inflation is not reaccelerating, meaning the situation is stabilizing. This allows the Fed to focus more on the labor market.

Ellen Zentner from Morgan Stanley says, “We have seen this movie before. Inflation does not flare up again, but it stays above target. Therefore, the Fed does not yet have the green light to cut.”

Ian Lyngen from BMO is clear. “Unemployment matters more right now. So today’s numbers do not change the odds of a move in January.”

Skyler Weinand also sees it clearly. “The three rate cuts in 2025 are enough for now. The Fed will wait to see how they affect the economy before acting again.”

Art Hogan notes that while the CPI report was positive relative to forecasts, it does not give the Fed the necessary cover to begin cutting rates immediately.

Even Alexandra Wilson Elizondo from Goldman Sachs emphasized that the market is now focusing less on CPI itself and more on confidence in the Fed and the stability of monetary policy.

Of course, not everyone agrees with the CPI narrative. Donald Trump, true to his style, came out and said that Jerome “Too Late” Powell should cut rates now. Well, yes. Everyone has their role.