Focus on Inflation
This week, the key CPI inflation report released on Wednesday was a little stronger than expected, while the other major economic data was mixed. As a result, mortgage rates ended the week slightly higher.
The Consumer Price Index (CPI) is a closely watched inflation indicator that looks at price changes for a broad range of goods and services. In June, CPI was 9.1% higher than a year ago, up from 8.6% last month, and the biggest annual rate of increase since 1981. Annual food and energy price gains were the largest in decades.
Core CPI excludes the volatile food and energy components and provides a clearer picture of the longer-term trend. Core CPI in June was 5.9% higher than a year ago, down from an annual rate of increase of 6.0% last month, but still far above the readings around 2.0% seen early in 2021.
As the economy has steadily recovered from the pandemic, strong consumer demand, supply constraints, and surging commodity prices have pushed prices much higher for a wide range of goods and services. The conflict in Ukraine and the shutdowns in China due to Covid have worsened shortages for many key items. Over time, supply chain disruptions will ease, and Fed tightening will reduce inflationary pressures, but it is not clear how quickly this will occur. Of note, energy and commodity prices have declined sharply in recent weeks, which will be reflected in the July data.
Since consumer spending accounts for over two-thirds of US economic activity, it is an important indicator of the health of the economy. In June, retail sales rose 1.0% from May, which was a little higher than expected. Particular strength was seen in furniture sales and sales at bars and restaurants. Note that retail sales are not adjusted for inflation, so higher prices accounted for some of the gains seen in June.
Comments from Fed officials this week have ignited a debate about the size of the next federal funds rate increase. When asked if a 100 basis point rate hike was possible at the next meeting on July 27, the Fed’s Bostic replied that “everything is in play.” Other officials have expressed reluctance for a rare move of that magnitude, however. Investors are now split nearly evenly between expecting a 75 or a 100 basis point increase.
Investors will continue to look for additional Fed guidance on the pace of future rate hikes and bond portfolio reduction. Beyond that, Housing Starts will be released on Tuesday and Existing Home Sales on Wednesday. The next European Central Bank meeting will take place on Thursday, and the next US Fed meeting on July 27.