Markets Ran Away with the Higher US CPI but Mind the PCE Inflation Rate
Yesterday we had a strong US CPI report from the US, with the inflation rate coming 2 points above expectations for January. Markets ran away with the numbers, but the PCE inflation which the FED prefers doesn’t look that strong, so the USD might retrace some of yesterday’s gains.
Which Inflation Report to Follow
So, the Federal Reserve may face conflicting signals from the Consumer Price Index (CPI) and the Personal Consumption Expenditures (PCE) index. The CPI remains significant, however the PCE takes extra importance for the FED.
Their job is to anchor inflation as close as possible to 2%, but there’s ambiguity regarding which inflation report takes precedence. Although the Fed considers the CPI as well as the PCE inflation reports, its favourite data is the PCE. According to Morgan Stanley, the core CPI data yesterday showed a 0.4% month-over-month increase, but this may not be reflected in the upcoming PCE report.
Morgan Stanley predicts a 0.3% month-over-month increase in core PCE due to revisions. Notably, the weight of shelter in the PCE data is higher at 36% compared to 15% in the CPI. While this would lift the six-month core CPI to 2.2% from 1.9% (annualized), it remains close to the Fed’s target. This may explain why Fed policymakers aren’t reacting strongly to today’s CPI report.
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