Aafter a difficult one 2 years, inflation appears to be easing its grip on the American economy. Headline prices rose just 0.1% month-on-month in November, according to data released December 13, leading to the rarest of recent events: a surprise to the downside. More encouraging was a breakdown of data showing that core inflation, which excludes volatile food and energy costs, had slowed for the second straight month. Some of the underlying pressures that drove prices up are receding.
Investors and analysts scarred by America’s relentlessness course of inflation, have learned to hold back their hopes after a single month of rosy data. Annual inflation rates remain high at 7.1% for headline inflation and 6% excluding food and energy costs. But disinflation in November is followed by a similarly upbeat batch for October. Optimism is increasing, albeit still more cautiously than unbridled s&p 500 index of leading American companies rose about 2% after the price data, building on a steady rally since mid-October.
The relief doesn’t just stem from the belief that America’s inflationary rush is about to break out. There is also hope that the Federal Reserve will become less restrictive. It has already hiked interest rates from a 0% floor in March to nearly 4% today, the sharpest stretch of monetary tightening in America since the early 1980s. On Dec. 14, it’s expected to hike rates another half-point, a sharp hike but a step down from the three-quarter-point hikes it’s opted for in recent months. Will the Fed stop raising interest rates any time soon? Prior to the latest inflation data, most investors expected interest rates to break above 5% by mid-2023. Bond prices are now pointing to a peak of less than 5%.
The biggest drag on headline inflation in November was a fall in energy costs. But the most encouraging development was the breadth of deflation. Many of the consumer goods that were in short supply during the Covid-19 pandemic are now readily available. The prices of cars, children’s clothing, furniture, televisions and toys fell. Trends have also turned more favorable for services, which have replaced goods as the main driver of inflation. Looking ahead, there is reason to believe that the disinflationary forces will gather momentum. Market-based measures of house prices have fallen sharply over the past six months, but will not appear in official inflation data until next year. While wage growth remains ultra-fast, it could also slow slightly as companies scale back hiring.
In fact, concerns could soon shift from high inflation to low growth. It is in the nature of monetary policy that it always operates with a lag. It takes months for interest rate changes to be reflected in investment and spending decisions – much of the tightening implemented so far will not hit the economy until next year. The median expectation of professional forecasters is that America will experience a recession in the first half of 2023. Capital Economics, a research firm, declared: “Stick a fork in, inflation is over”. It’s premature, but for once the news is promising. ■
