US CPI Important for the Data Dependent FOMC

Consumer Price Inflation: The Key Data Point for Markets Tomorrow

We get a slew of US price data points this week including factory and import price data. But tomorrow’s consumer price inflation will be the key one for markets. This will form part of the puzzle for the Fed’s data dependent policy decision in June. It is worth pointing out that we do get one more CPI release before the next FOMC meeting, with next month’s report released the day before the Fed rate decision.

Having peaked above 9% in the middle of last year, expectations are for headline CPI to print close to 5% in April. The core rate, which excludes volatile food and energy costs, is seen unchanged at 5.6% and easing on a monthly basis. Services inflation is forecast to remain elevated and not decline meaningfully until later in the summer, while core goods prices are expected to stay flat.

Inline prints will be unpleasantly high for policymakers with CPI still running at more than double the Fed’s 2% target. But the headline reading would be at the slowest pace in nearly two years and confirm gradual disinflation, with shelter costs helping this process in the next few months.

The Fed is expected to remain on hold during that time as uncertainty in the banking sector continues to tighten credit conditions and lending standards. In fact, while the data will be seen as sticky, other price measures like business inflation expectations are now falling sharply. This environment could potentially push CPI much closer to target by December as unemployment rises. Certainly, money markets believe this will happen, with close to three 25bp rate cuts by year-end priced in. Will the data confirm this bias and see the dollar potentially test its year-to-date lows?

Market Pricing vs Official Fed Line: The Divergence Widens

That said, Friday’s latest US jobs data confirmed a continuing tight labour market with wage growth still very solid. Stronger data will help lift the dollar, though it remains in a medium-term downtrend. Options which measure price volatility of markets around the release are relatively low, but this could change with a headline print below 5% or meaningfully higher. Fed Chair Powell confirmed last week in his press conference that he didn’t expect to be cutting rates this year so the data add to the inflation picture and the divergence between market pricing and the official Fed line.

Written on 09/05/2023 by Lukman Otunuga, Senior Research Analyst at FXTM

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