Inflation Headache Remains for the Fed

The latest inflation report raises the odds of further Federal Reserve action.

Another firmer-than-expected CPI (Consumer Price Index) report raises the chances the U.S. Federal Reserve will hike interest rates one more time this year.

Core U.S. CPI rose 0.3% in September compared with August, firmer than our 0.2% expectation, while headline inflation rose 0.4% from August. Higher costs for housing and hotels drove much of the upside surprise.

Most concerning is the reacceleration in core, wage-sensitive services categories over recent months. While one should never read too much into any one data print, the September report underscores our skepticism of the Fed’s expectation of an economic soft landing. Indeed, we’ve argued that labor markets need to weaken, including a rise in the unemployment rate, for inflation to more fully moderate back to the Fed’s 2% inflation target.

Implications for near-term Fed policy are complicated. While this report and the recent strong payroll report argue in favor of another interest rate hike before year-end – as the majority of Fed officials projected in the September Summary of Economic Projections (SEP) – tighter financial conditions (if sustained) are doing much of the work for them.