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As expected because of the Iran war, inflation shot up in March, with a 0.9% jump pushing the 12-month inflation rate to 3.3%, up from 2.4% in February. Gasoline prices rose 21.2% and fuel oil, 30.7% over the month. Energy cost increases are not done yet. Even if prices do not go up any further at the pump, there will be another large increase in gasoline costs in April’s report, since the Consumer Price Index contains mostly midmonth data. That should shoot the 12-month inflation rate close to 4.0%, where it should stay until gasoline prices start falling. We expect that this will happen whenever the Strait of Hormuz is cleared for ship traffic again and petroleum exports from the Persian Gulf resume. However, don’t expect a quick return to prewar gasoline prices. Full normalization of energy costs could take well into 2027 because of extensive damage to energy infrastructure in the Middle East.
Excluding energy, the rest of March’s price report was fairly benign. There was a large 2.7% monthly rise in airfares (and a 12-month jump of 14.9%) because of rising fuel costs, as well as continued tariff pressure on clothing, toys and tools. But those increases were more than balanced by a big drop in prescription drug prices, a decline for used vehicles, unchanged prices for medical services and groceries, and moderate increases for shelter and new cars. Good news for breakfast lovers: The price of eggs continues to drop, declining 3.4% in March and 44.7% over the past year. We expect food prices in general to stay moderate in the coming months.
The April price report will see upward pressure from more than just energy. It appears that used-car prices are starting to rise again. Also, the flat prices in the medical-care sector and for groceries are not likely to be repeated.
The Federal Reserve will be reluctant to cut interest rates at its policy meeting on April 29 because of the rising inflation rate, even if that proves temporary. The Fed generally discounts energy price fluctuations in its deliberations on interest rate policy. But the central bank will also note that inflation excluding the more volatile food and energy components is likely to creep upwards as the year progresses. The measure of inflation that the Fed watches, personal consumption expenditures excluding food and energy, came in at 3.0% for February, and will likely see a sharp increase when the March number is released on April 30. The Fed wants so-called core PCE inflation to come in at 2%, so it was already well off its benchmark before the Iran war caused energy prices to spike.
