The US inflation slowdown is not the result of the Fed’s rate hikes

Recent US inflation data has been a win for the temporary team – the economists who predicted inflation would fall without rate hikes.

The US consumer price index (CPI) rose 0.1% from October to November, well below the 0.3% increase economists polled by Dow Jones had predicted.

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Several measures of commodity inflation slowed or fell outright in November. This is partly because supply chain bottlenecks have been removed and partly because companies had been stockpiling goods in response to the supply chain shock and now had to sell some of that inventory at a loss. But interest rate hikes? They seemed to have little to do with it.

If interest rate hikes were to slow inflation, we would expect house prices to fall now that mortgage rates have risen above 6%. Nevertheless, the high cost of accommodation continued in November. Instead, we see inflation slowing for new cars and falling for used cars, even as car sales have picked up.

And the inflation that has been most persistent? Those are prices for housing-related goods such as home furnishings and appliances, which continue to rise. This is despite the fact that the Fed’s tightening of financial conditions has dampened the housing market.

What about declining rental costs?

The CPI’s measurement of rents tends to lag current conditions, but attempts to measure asking prices today suggest rents are falling. This drop is unlikely to be driven by the Fed’s rate hikes, since Americans usually don’t fund their rent payments, as economist Alex Williams of labor policy group Employ America noted in a recent blog post. Rents often fall in response to lower incomes or fewer jobs.

“We see that prices — even prices that are primarily sensitive to the pace of job growth — may slow as the labor market continues to strengthen and wages rise,” Williams wrote. “In reality, it suggests that we can achieve steady rental inflation of 2% while employment continues to grow. The kind of recession hitting employment isn’t necessarily what some prominent economists want to develop.

The long road of rate hikes

Part of the reason why the Fed’s rate hikes haven’t had more effect is that they take about six to nine months to work their way through the economy. Once borrowing is made more expensive for banks by the federal funds rate, those banks don’t immediately turn around and make borrowing more expensive for everyone else. (There are other monetary policy dynamics that are causing mortgage rates to exceed the Fed’s targets).

While the Fed has stepped back from 75 basis point hikes in favor of 50 basis point rate hikes, the new, slower pace should not be interpreted as a pivot to looser monetary policy, labor market analyst Joseph Politano wrote in his Apricitas Economics newsletter this week. week. Fed officials have been gloomier in their economic economic projections for December than at previous meetings, predicting higher interest rates and higher unemployment in 2023.

The Fed also monitors wages, as it believes wages will dictate the path of inflation. The employment cost index fell in the third quarter from 5.6% year on year in the second quarter to 5.2%. And while some economists sounded the alarm about a 0.6% monthly increase in hourly wages in the November jobs report, average hours worked per week declined, meaning wage data in the jobs report is skewed upwards.

Growth in the labor market was expected to slow down on its own in 2022 and it is already doing so, said Skanda Amarnath, executive director of Employ America. That should give the Fed pause before it tries to raise unemployment further to lower prices, Amarnath added.

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