CPI Inflation Rate Is Still Hot, But The Fed May Pause; S&P 500 Bounces

Though inflation is still high, the Fed may pause on raising rates due to bank struggles.

In February, the consumer price index was a strong indicator of price pressures. The annual CPI inflation rate met expectations at 6% while the core CPI was higher than expected. Fed officials could still decide to wait until next week for a rate increase, despite persistently high inflation. They are trying to boost confidence in the banking industry. After the CPI report, the S&P 500 jumped strongly on early Tuesday's stock market.

CPI inflation fell to 6% in March, from 6.4% in the previous month. This was in line with expectations. The consumer price index increased 0.4% for the month.

The core CPI, which excludes food and energy, increased by 0.5% from January levels. This was higher than the forecasted 0.4%. The core annual inflation rate was unexpectedly unchanged at 5.5%, compared to forecasts of 5,4%. In September, the core CPI rate reached a record high of 6.6%.

Jerome Powell, Fed chair, has stated that core non-housing services are the most important spending category for inflation forecasts. These data can be found in the Commerce Department’s personal income and expenditures data from the last month. Wall Street considers the CPI measure of services less rental of shelter to be a reasonable proxy for inflation, but there are serious flaws.

The CPI for February showed that services, excluding rent and shelter, rose just 0.1% in the past month. It also increased 6.9% compared to a year earlier versus 7.2% last January. The figure was distorted by a 0.7% decrease in medical care costs. This reflected a monthly decrease of 4.1% in the cost for health insurance. The CPI report's method of focusing on the profits made by health insurers in the previous year does not provide a useful, timely data point.

Markets had priced in 64% of a rate hike of one quarter point at the Fed meeting next week. After the CPI data, that number jumped to 77.5% with only 22.5% of no hike.

Powell's announcement of a larger move a week earlier had increased the odds for a half-point increase to around 70%.

The data have remained hot. The failure of three banks over the past few days has raised concerns about financial sector stress. Over the weekend, the Fed and other bank regulators acted like a bazooka and guaranteed even deposits that were not insured at SVB Financial Group’s Silicon Valley Bank and Signature Bank.

The Fed announced an annual bank term funding program for small and midsize financial institutions to help them solve a problem that plagued SVB Financial. SVB could have tapped a Fed loan if the new Fed program was in place by using its falling bonds as collateral. This would have avoided the need to sell the bonds at a loss.

Bank stocks were still under pressure Monday. Federal officials have said that the SVB and Signature Bank rescue will be funded by increased deposit insurance fees charged to banks covered. It's also feared that banks may have to offer better terms for deposits to limit outflows, with short-term Treasury rates still exceeding 4%.

First Republic Bank (FRC) and other hard-hit bank stocks recovered on Tuesday morning. However, they are still down significantly over the last week. A sudden Fed rate pause could help stop the bleeding. Next week, the Fed will also release new economic projections. The Fed could also release new economic projections next week.

S&P 500 rose by 1.7% after the CPI report. S&P 500 closed at a 2-month low after slipping 0.15%.

The 10-year Treasury yield increased 11 basis points, to 3.63%.

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The core goods price rose remained unchanged for the month. This lowered the 12-month inflation rate for goods to 1%, down from 1.4%.

The energy prices fell 0.6% in February and are now 5.2% higher than a year earlier, compared to 8.7% last January.

Food prices at home increased by 0.3% in January, but only 0.3% for the entire month.

Used car prices fell 2.8% in the CPI report, while new vehicle costs rose 0.2%.

The price of apparel has risen by 0.8%, and is now 3.3% higher than a year earlier. Transport service prices increased by 1.1%.

Powell has highlighted that it is possible to create an inflation index from the CPI which bears some relationship to the non-housing core services category.

Start with the services, minus rent and shelter. Subtract health insurance and energy services (which are derived from the profits of last year's insurers). Add lodging and food service. In February, prices for the CPI proxy of core non-housing services rose by a substantial 0.6% over the course of the month. The 3-month annualized rate of inflation also increased to 6.7%.

PCE Core Nonhousing Services covers 50% of household expenditure, while this CPI category only covers 29%. There are, in other words still large differences. The biggest difference is in health care, which accounts for almost 16% of PCE budgets, but medical services only account for less than 7%.

The CPI is not the best indicator of PCE health service inflation. Instead, it's Thursday's Producer Price Index. The PPI medical service component feeds directly into PCE.

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