U.S. Inflation Eases In November, But Further Rate Hikes Expected

CPI Inflation eased more than expected in November. Prices rose 0.1% for the month, or 7.1% over the past 12 months. Although historically high, that’s the smallest 12-month inflation increase since December 2021. Stripping out food and energy costs, prices rose 0.2% for the month, or 6% on a 12-month view.

Falling Prices

Many costs declined in November – most notably energy, but medical costs, airfares and used cars prices also fell. Beyond this, even within categories where prices increased overall, costs for many items declined.

For example, food costs rose, but the cost of many proteins now is falling. This broad picture is similar for apparel and home goods where certain constituent prices are in decline. This was a more encouraging report than most expected, and prices even declined in absolute terms for November on a non-seasonally adjusted basis.

Housing Costs Rose

The primary contributor to inflation in November was housing, as costs rose 0.6% for the month. However, the way the CPI calculates housing costs implicitly builds in a lag of around 6 months to current prices.

According to estimates from Zillow and Redfin, U.S. house prices have eased since the summer. This means that housing costs may decline in the CPI series into 2023. As Federal Reserve Chair Jerome Powell commented at a Brookings Institution speech on November 30, “We would expect housing services inflation to begin falling sometime next year.” That’s good news for inflation, because housing carries the largest weight in the calculation of inflation rates.

Fed Reaction

The Fed have sought to downplay recent positive inflation data, as overall inflation of over 7% remains very high compared to the Fed’s goal, and wage costs continue to rise.

However, the November report provides further evidence that inflation is moderating. The question for the Fed is how fast inflation will decline, and what level inflation will fall to. The current concern from the Fed is that inflation will take some time to trend lower and even then, may not hit the Fed’s 2% inflation goal. However, the recent CPI reports are a lot more encouraging than the data from earlier in 2022.

Rate Hikes Likely

Despite recent encouraging inflation data, the Fed is still expected to raise interest rates into early 2023. Just as it appears peak inflation already took place, the markets also expect short-term interest rates to peak in 2023.

The current market and Fed expectation, is that short-term rates will remain at around 5% for much of 2023. If inflation reports continue show prices easing, as we’ve seen recently, the Fed may chose to reconsider that approach. Still, the markets worry that the Fed could cut rates based on recession risks, rather than improving inflation numbers.