Inflation News: Steady Interest Rates Seem Likely

Ivanna Hampton: Inflation came in slightly higher than expected in September. The Labor Department reports housing costs played a big role. But how will the latest Consumer Price Index factor into the Fed’s inflation fight? Morningstar Research Services Senior U.S. Economist Preston Caldwell is here to discuss that.

Thanks for being here, Preston.

Preston Caldwell: Thanks for having me on, Ivanna.

Hampton: Inflation accelerated in September, but still below June 2022′s peak. What does this report tell investors they should expect from the path toward the Fed’s 2% inflation target?

Caldwell: At a high level, the downtrend in inflation still remains in place. We did see an uptick in the monthly growth rate to 0.32% from 0.28% in August. So that was a pretty minor uptick, in core inflation, that is, but the year-over-year growth rate still fell to 4.1% from 4.4% in the prior report. So still a downtrend in the year-over-year growth rate. Inflation continues to trend back to the Fed’s 2% target. And therefore, we continue to expect as this trend continues, eventually the Fed to not only be done with hiking interest rates, but eventually start cutting interest rates in early 2024.

Hampton: Now, what are we seeing in terms of inflation among items that consumers often feel the most, like gas prices, food, and restaurants?

Caldwell: We have seen an uptick in energy prices, including gas, as well as food prices in the last few months, which tend to follow energy prices to a great degree. So those are components in headline inflation, and we normally strip out food and energy to yield our core inflation index to get a better measure of where inflation is trending. And indeed, we know that, at least for the case of gasoline prices, which are a major component of the index, those are headed back down in the near future. In fact, consumers can begin to see prices at the pump trending down over the last week or so, and based on futures prices, that will continue in the coming month or so and start to show up in upcoming inflation reports.

Hampton: Are we witnessing the bumpy recovery the Fed has warned us about?

Caldwell: There are always going to be bumps on the road. That’s just inherent to the noisiness of the data and just the way the economy works. For example, we saw an uptick in shelter or housing inflation in September, but we know that shelter inflation is inevitably going to go down because we have leading edge indicators of housing inflation in the form of market rent indexes, like the Zillow Index, for example. And those have all been flat, more or less, over the last year. So we know shelter inflation is going to follow that with a lag, and we’ll return back to normal over the next six months to a year. And the same goes for most other components of inflation, in my view.

Hampton: Now, what does this mean for the Fed at their next meeting and as we look into 2024?

Caldwell: I think the Fed is done hiking. They won’t hike in their November or December meetings, although the market still prices in some small probability that the Fed will hike, but most market participants agree the Fed is done hiking now, and I’m on board with that. Not only does inflation continue to trend down, but we’ve seen a large runup in bond yields over the past month or so, which constitutes a tightening of financial conditions, which is really a substitute for another rate hike anyway. So there’s less need for the Fed to step in and raise the Fed-funds rate again.

Hampton: All right. Well, Preston, thank you for your time today.

Caldwell: Thanks, Ivanna.