U.S. Inflation Sees a Rise: Implications for the Markets

U.S. inflation increased last month, primarily driven by higher prices for essentials such as gas, eggs, and used cars. However, there are also signs that core price pressures are beginning to ease.

The Labor Department's recent report indicated that the consumer price index (CPI) rose by 2.9% in December compared to the same month last year, marking the highest increase since July, and an uptick from November's 2.7%. This figure represents a continuation of inflation's rise, which has now increased for three consecutive months after reaching a 3.5-year low of 2.4% in September.

Importantly, when volatile food and energy prices are excluded, core inflation has decreased slightly to 3.2%, down from a steady 3.3% over the previous three months. This moderation in core prices has provided some relief to investors, leading to a substantial surge in Dow Jones futures, which jumped nearly 700 points immediately following the report.

Despite this positive sign in core inflation, there remains concern among economists and investors that inflation could remain persistently above the Federal Reserve's target of 2%. In 2023, inflation has shown a steady decline, but pressures still appear to linger.

Moreover, rising overall consumer prices suggest that inflation is still a concern. Recent increases in key expenses like egg prices—up 3.2% in December due to an avian flu outbreak impacting supply—and a 4.4% rise in gas prices are noteworthy. Currently, the national average for a gallon of gasoline stands at $3.09, slightly higher than the previous month and only marginally above last year’s levels.

When comparing prices on a month-to-month basis, consumer prices saw a hike of 0.4% in December, the most significant rise since March. Core prices advanced by 0.2%, a decrease from consistent 0.3% increases over the prior four months, signalling that some pricing pressures could be lessening.

Concerns were raised last week when a stronger-than-expected jobs report caused a drop in stock and bond prices, suggesting that a healthy job market might lead to sustained higher inflation. This situation could hinder the Fed’s ability to enact further rate cuts.

Last Tuesday, political developments also surfaced, with former President Trump announcing plans to create an “External Revenue Service” to handle tariffs, hinting at the potential imposition of various duties. Throughout his campaign, Trump discussed imposing tariffs as high as 20% on imports and up to 60% on goods from China.

Minutes from the Fed’s December meeting indicate that economists predict inflation will remain steady through 2024, influenced partially by potential tariff hikes.

Fed Chair Jerome Powell has reiterated that the central bank will maintain higher interest rates until inflation returns to 2%. Consequently, market expectations indicate that the Fed may only cut its key rate once this year from its current 4.3% level.

Although overall borrowing costs are high due to inflation concerns, mortgage rates continue to rise. After the most recent increase, mortgage rates have reached 6.9%, which is considerably higher than the below 3% rates seen during the pandemic.

With a resilient job market reflected in an unemployment rate that fell to 4.1% last month, consumers are still capable of driving economic growth through spending. However, if consumer demand continues to outstrip production capacity, it could lead to further inflationary pressures.

Earlier discussions among leading economists, including former Federal Reserve Chair Ben Bernanke, suggest that the tariffs proposed by Trump may only marginally impact inflation, potentially raising it by a few tenths of a percentage point. Such a slight increase could still influence Fed policy decisions.

In summary, while inflation figures have risen, a slowdown in core inflation has brought some optimism to Wall Street, which may lead to careful monitoring and adjustments in response to this evolving economic landscape.

inflation, markets, economy