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  • Writer's pictureJonathan Wilmot

Disinflation Set to Slow Down

After 2 very benign CPI reports for June and July the August report was slightly more concerning. The good news is that core inflation less shelter costs is running within a whisker of the Fed's 2% target over the last quarter figure 1. And we know that shelter inflation will come down steadily over the next year or so - figure 2. The less good news is that the declining trend in core service sector inflation stalled in August - roughly in line with the readout from non-manufacturing PMI output price indices - figure 3. But more important it's also likely that the roughly 30% jump in crude oil prices in recent months will feed through into some components of core inflation going forward, and possibly to wages too. (Most of the literature suggests that headline inflation leads core inflation not the other way around). From a Fed Policy point of view, it doesn’t really alter the outlook for this month’s FOMC (a skip rather than another hike) but it does not close down the possibility that there might still be another1-3 rate hikes in the Fed’s locker between now and next spring.

Looking at the detail for the month, goods prices are down on the year and goods ex-energy are trending sideways. Within services there was another 2.0% jump in transportation services on the month and owners equivalent rent was up 0.4%. The latter will come down over the next year, but the former has room to run. Motor vehicle repair and insurance costs in particular increased significantly on the month and by 12 and 19% respectively year-on-year (making them top of the annual inflation league table). Huge losses for auto insurers this year, driven by escalating repair costs and climate change related risks, are driving up premiums - which will likely rise further in coming months.

To illustrate the bigger picture, we include in the pack a number of price level charts: they show that most components of inflation are bending back towards their prevailing trend before the COVID/Ukraine price level shock that pushed core and headline inflation rates back to levels not seen in a generation. Global oil markets are tightening as the Saudis lead an effort to keep prices near their budget break even level (roughly where we are now). It remains to be seen whether they will be as prompt in adding back supply should prices "overshoot". But in any case, with energy prices back on the rise it looks like the Fed will either need more patience to accommodate a slower return to their 2% target, or they will need to hike rates further.


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