The producer price index (PPI) rose by 0.4% in January, following an upwardly revised 0.5% increase in December, making it the hottest two-month stretch of inflation since February last year.
The main drivers were food and energy prices, which rose by 1.1% and 1.7%, respectively.
Excluding those volatile categories, core final demand inflation increased by only 0.1%, a modest increase.
That small increase should give the market some relief, especially after Wednesday’s hot consumer price index (CPI) report, which forced the market to pare back its rate cut bets.
There are also reasons to believe the Fed’s preferred inflation metric, the personal consumption expenditures (PCE) index, might come in a bit lower than what both the headline CPI and PPI inflation numbers are suggesting.
All the key components that feed into the calculation of PCE from the PPI data—from airline services to medical care—posted either a sharp decline or a slower pace of increase.
Given the CPI and PPI data, we estimate that the top-line PCE number will most likely come in at 0.4% month-over-month for January, yet the core metric will most likely stay at 0.2%. That means the 12-month PCE inflation would come in at 2.5% for both overall and core numbers, a much tamer scenario than what we saw with CPI.
Concerns over inflation outlook
With the fact that new tariffs on imported goods did not go into effect in January, we should expect a quicker pace of inflation in the coming months.
There remains a high level of uncertainty around the magnitude and the targets of new tariffs, which only makes it more difficult to grasp their impact on inflation.
But what is most likely is that tariffs on input materials like steel, aluminum and oil should have a broad impact on overall inflation.
Read more of RSM’s insights on the inflation, the economy and the middle market.
The recent disinflation trend has most likely run its course. Inflation will either stick at this level of between 2.5% to 3% or higher depending on how trade and immigration policies pan out.
That should put the Fed in an uncomfortable position when it comes to setting its policy rate.
The market is pricing in only one rate cut this year. We would not be surprised if that scenario or even no cut turns out to be the case.
We remain cautious against any overreaction to the inflation data at the turn of the year, which might be clouded by seasonal noise. The current situation is eerily similar to what happened last year, which turned out to be more noise than trend.
