- With all eyes on inflation, a deceleration in Core Services ex-Shelter prices is a key precondition for the Fed to gain confidence that the Consumer Price Index (CPI) is receding to mandate-consistent levels. Wages are a key input to these prices, but not the only thing to watch.
- We are keeping a particularly close eye on two groups of prices that comprise nearly two-thirds of Core Services ex-Shelter CPI: (1) service prices that are regulated (particularly insurance), and (2) services with infrequent price resets (like tuition, medical services, and subscriptions).
- We see upside risks in both of these areas, which contribute to our view that core inflation is likely to remain sufficiently elevated throughout 2023 that monetary policy has no space to loosen in the second half of this year.
Markets remain inflation junkies
There have been glimmers of hope in 2023 that the inflation fixation of 2022 was a transitory phenomenon. In particular, the market has begun to more closely monitor jobs market data releases to try to spot signs of a labor market and wage slowdown. In the plot below, we try to quantify the relative importance of each part of the Fed’s dual mandate by measuring the expected excess S&P 500 volatility (using daily options data) on release dates for CPI and payrolls. Here we can clearly see that payrolls days have indeed risen in importance relative to 2022. However, the more elevated red bars highlight how inflation remains a key risk to markets. We expect this to remain the case through the summer and see some potential upside risks to the core inflation outlook in the second half of the year.
Heightened volatility on CPI release days demonstrates the importance of inflation on asset markets today
Source: BlackRock with data from Bloomberg, April 2023.