The latest data on the US Consumer Price Index (CPI) for May reveals a modest increase of 4.0% compared to the same period in the previous year. This figure falls slightly below the experts’ forecast of 4.1% and represents the lowest rise in over two years.
The decline in US CPI over the past 11 months indicates a positive trend, although inflation remains above the Federal Reserve’s target of 2%. The new data suggests that the Fed may pause its interest rate hikes in the upcoming policy meeting on June 15.
What is US CPI & Core CPI?
The United States Consumer Price Index (US CPI) is a collection of indices calculated by the U.S. Bureau of Labor Statistics (BLS) to measure the price of consumer goods and services. The BLS regularly calculates various CPIs for different purposes and publishes them on a monthly basis.
The Core CPI index excludes volatile goods like food and energy. This exclusion is based on the historical volatility and non-systemic nature of food and energy prices. Food and energy prices often experience significant fluctuations that are temporary and do not reflect overall price changes accurately. Factors such as supply disruptions, such as drought or OPEC production cuts, can lead to substantial fluctuations in these prices. The core CPI was introduced in the 1970s to provide an index that is less influenced by short-term shocks in food and energy prices. However, on January 25, 2012, the Federal Reserve announced its decision to rely on the personal consumption expenditures price index instead of the core CPI.
US CPI & Core CPI in May 2023
- CPI Y/Y 4.0% (Expect = 4.1%, previous month = 4.9%)
- CPI M/M 0.1% (Expect = 0.2%, previous month = 0.4%)
- Core CPI Y/Y 5.3% (Expect = 5.3%, previous month = 5.5%)
- Core CPI M/M 0.4% (Expect = 0.4%, previous month = 0.4%)
The 4.0% year-on-year increase in CPI marks the lowest growth since March 2021, following a 4.9% rise in April. Inflation reached its peak at 9.1% in June 2022 but has been gradually subsiding as the significant increases from last year no longer factor into the calculation. Economists surveyed by Reuters had anticipated a 0.2% increase in CPI for May, with a year-on-year growth of 4.1%.
Underlying Price Pressures and Core Inflation
While the US CPI has shown a slowdown, core inflation, which excludes food and energy prices, remains resilient. Core CPI increased by 0.4% month-on-month and 5.3% year-on-year, indicating that price pressures have somewhat eased. However, this data indicates that the Fed still has work to do in managing inflation. Interest rates will likely remain at their current levels for a prolonged period.
The May CPI report by the Labor Department highlights several contributing factors. Energy product and service costs, including gasoline and electricity, decreased, leading to a decline in overall CPI. However, rents remained stable, and prices of used cars and trucks continued to rise. Food prices experienced a slight increase, while certain items like meat and fish became cheaper. On the other hand, dining out became more expensive.
Financial & Crypto Market Reaction
Following the release of US inflation data, the US Dollar (USD) experienced renewed selling pressure, leading to a 0.5% decline in the US Dollar Index, which stood at 102.915 at the time of writing.
Simultaneously, the yield on the benchmark 10-year US Treasury bond reversed course and dropped below 3.7%. The CME Group FedWatch Tool indicates that the markets are now fully pricing in no change to the Fed interest rate on Wednesday, compared to a 75% probability earlier in the day.
Yohay Elam, an analyst at FXStreet, commented on the market implications of the US inflation data, suggesting that the US Dollar is likely to continue weakening while Gold and stocks rally. Elam also mentioned that there is no indication of a last-minute decision to raise rates, making market conditions relatively calm as investors await the dot plot and statements from Fed Chair Jerome Powell. Overall, there is no immediate cause for panic, at least not at this stage.
Following the news, Bitcoin (BTC) experienced a slight downward movement. This could potentially be attributed to market makers taking action to liquidate long positions, possibly influenced by recent concerns in the cryptocurrency space, including the Binance and SEC faceoff scheduled for tomorrow in court.
Implications for the Federal Reserve and Financial Markets
The moderation in prices has been welcomed by President Joe Biden, who expressed optimism for the future. Wall Street stocks responded positively to the news, with the S&P 500 and Nasdaq indexes reaching new one-year highs. The US dollar weakened against other currencies, and Treasury prices rose following the release of the data.
It seems like The Federal Reserve is likely to view the gradual inflation and labor market slowdown as an opportunity to abstain from raising interest rates in the upcoming meeting. Since March 2022, the Fed has pursued an aggressive tightening policy, raising its policy rate by 500 basis points. However, economists suggest that the Fed should pause rate increases to assess the impact of previous actions on cooling demand.
The recent CPI report brings good news for workers, as average hourly earnings adjusted for inflation rose by 0.3% on a monthly basis. The discrepancy between core and headline numbers in the report can be attributed to surging gas prices in 2022. Gasoline prices have fallen by 19.7% over the past year, while food prices remain elevated, with a 6.7% increase. Shelter prices have risen by 8% and transportation services by 10.2%, while airline fares have declined by 13.4% year-over-year.
While the US consumer price index experienced a marginal increase in May, the annual inflation rate reached its lowest point in over two years. This data suggests a moderation in inflationary pressures and supports the expectation that the Federal Reserve will maintain interest rates at their current levels. However, economists caution that further rate hikes may still be possible if economic data continues to surprise on the upside and inflation remains persistent.