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December inflation held steady at 2.7%, surprising analysts who had expected an uptick. Commodity prices excluding food and energy were unchanged, helped by a drop in used car prices. Energy prices rose a tad because of a jump in natural gas service. This was mostly offset by a decline in gasoline prices. Food prices continue to rise slowly, but egg prices have been dropping rapidly, and are now at their lowest level in almost two years. The strong rise in beef prices continues unabated, however. Shelter and medical service costs had their biggest increases in five months after a lull, but the inflation rate of services excluding energy has eased to 3.0% from 4.5% a year ago. Car repair costs declined for the first time in seven months. Video and video game subscriptions jumped a whopping 19.5%.
The 12-month inflation rate for all prices will drop in January through March, but mostly because of strong price increases a year ago raised the base for the year-over-year calculation. Expect the reported 12-month rate to rebound by a few tenths of a percentage point toward the end of this year, ending at about 2.6%.
Inflation is subdued enough that the Federal Reserve could cut interest rates at its January 28 policy meeting if it wanted to. Our guess is that the Fed won’t want to, at least not at this meeting. The Fed is considering developments in the labor market to be more important than inflation right now, at least as long as inflation remains well-behaved. If hiring remains poor, then the Fed may consider another interest rate cut.
While the headlines focus on the Consumer Price Index, note that the Fed’s goal of 2% inflation is based on a different price measure called the personal consumption expenditures deflator, not the CPI. The PCE deflator excluding food and energy rose at a 2.8% rate for the 12 months ending in September, the latest data available, compared with the core CPI’s 3.0% number that month. That’s still well above the Fed’s target for 2% inflation over the long term. (The PCE deflator will be updated through November on January 22.)
