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CPI: All You Need to Know

Plus500 | Monday 11 September 2023

Of all the macroeconomic trends that the world has faced since the beginning of the COVID-19 pandemic, inflation has perhaps been one of the greatest causes for concern. Central Banks from Japan to the United States have struggled to adapt their monetary policies to the tidal wave of rising prices. Recent times have seen central banks like the Federal Reserve adopt hawkish monetary policies in response to inflation; September 13th’s American Consumer Price Index data release could shed some light on whether the Federal Reserve will continue raising interest rates.


What Is CPI?

The CPI is the most widely used tool to measure inflation, or its inverse, deflation. This important tool is used to calculate how the price of a wide range of market goods shifts over time.

The Dollar (DX)’s relative purchasing power can also be estimated indirectly with the CPI, by seeing whether an amount of goods can be purchased with more or less money compared to the previously-measured period. The prices of over 90,000 goods are monitored by the Bureau of Labor Statistics every month; when inflation rates are quoted in the media, it is important to understand whether the periods of comparison are months, quarters, or years, in order to accurately understand the time range of price increases. 

However, some raise the concern that the CPI has drawbacks as a measure of the U.S. economy’s health, as it fails to account for the diversity of consumption patterns adopted by American consumers, and may even underestimate inflation. Despite these potential disadvantages, it’s still preferred by professional economists and policymakers alike to judge whether inflation is within the ‘ideal’ two- to three-percent range. 

Ahead of Wednesday's CPI Release

Wednesday’s release by the United States Bureau of Labor Statistics is expected to form a key part of the Federal Open Market Committee (FOMC)’s decision calculus with regard to interest rates going into September 20th’s summit. 

The consensus seems to be that the figures will show a sharp spike in the prices paid by American consumers over the last full month of summer. Predictions are for core inflation to have flown upwards to 0.8% in August, with a major contributor to this increase being Gasoline (RB) becoming more expensive. The root cause for prices paid at the pump putting more pressure on American pockets is the over 2% jump in the price of Crude Oil (CL) in August. However, core CPI is estimated to have been 0.4% when volatile food and energy prices are removed from the formula.

What’s Next for the Fed?

According to experts, Fed Chairman Jerome Powell and other policymakers are keeping a close eye on underlying components of inflation. Firstly, services, from medical care to financial services, have been increasing in price. A tight labor market and rising wages have contributed to the uptrend in service prices, but with signs of slowing wage growth, services prices may start to moderate.

Furthermore, the Fed is monitoring home prices. Due to the lag in the Consumer Price Index (CPI) data reflecting housing costs, it takes several months to catch up with the latest changes in home prices. The Fed anticipates that housing costs will decline as the drop in home prices recorded beginning at the end of 2022, coinciding with rising mortgage costs caused by interest rate hikes, starts being reflected in the CPI figures.

However, there has been a rebound in home prices since the spring, and if this trend persists, it could lead the Fed to consider raising interest rates, as shelter costs significantly impact overall inflation. The likelihood of the Fed increasing rates in September seems low, given recent statements indicating any further rate adjustments will be well thought-out. Still, if inflation in services and housing prices fails to show signs of disinflation, the Fed may begin priming the markets for higher rates at their November summit. (Source:Forbes)

How Are Markets Reacting?

On the final trading day of last week, major New York Indices registered modest rises in value. Yesterday, the S&P 500 (USA 500)  rose by 0.1%, while the Nasdaq (US-TECH 100) and Dow Jones Industrial Average (USA 30) increased by nearly 0.1% and more than 0.2% respectively by the ring of the closing bell. Whether these trends will continue as markets prepare for Wednesday’s CPI release remains to be seen. All in all, conflicting predictions regarding the outcome of Wednesday’s CPI release leave little for traders to do but await the final verdict. Markets will have to wait and see how the latest macroeconomic trends play out.

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