Inflation in line, leaves flexibility for Fed

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What happened?

Consumer inflation in September came in more or less in line with expectations, with the month-over-month core figure +0.3% and the year-over-year figure +4.1%. 

Getting into the Fed’s heads

This data shouldn’t push the Fed in one direction or the other. They still have the option of raising rates next month or holding off and waiting for more information. We expect they’ll choose the latter option. Some recent economic data has been strong and could make a case for a rate hike, but with longer-term yields having risen sharply over the past month, the financial markets have done some of the Fed’s job of tightening for them, making them more likely to hold.

Looking at inflation, rather than the Fed’s hiking path, the road from here to 2% inflation looks like it will be a long one. It’s been falling slowly, and the 3-month annualized rate even bounced higher this month. Thus, the Fed is likely to remain watchful for several more months, probably even several more quarters, from here.

Under the surface

Looking at the more granular data, the dynamics and composition of inflation remained steady in September. Goods are still in deflationary mode and services are decelerating only gradually. Shelter prices had their highest run rate in six months and boosted that category’s contribution to the overall inflation rate. Still, shelter inflation has come well off its highs and we expect more disinflation to come through that channel through the end of this year.

Energy prices continued to influence headline inflation and, while they matter less for the Fed’s view on inflation trends, they do matter to consumers’ wallets and will take a bite out of household finances.

On the horizon

The Fed’s next rate announcement will come on November 1, making this the last key piece of data ahead of that decision. As mentioned, it is expected that they hold off in that meeting. That will then set them up for two more months of inflation and payroll data before their mid-December meeting.

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