CPI Spikes

The BLS reported this morning that August CPI rose by 0.6% over July, and 3.7% over last August. The former figure is seasonally adjusted. The latter figure compares with the 3.2% year-over-year increase reported in July and 3.0% reported in June.

From 3.0 to 3.2 to 3.7 isn’t an encouraging trend. But it’s not a surprising one either, given we’ve been anticipating accelerating CPI, for instance in CPI Hijinks.

Our analysis there focused on a technical aspect of yoy reporting. We showed that yoy figures would be expected to rise even if the monthly rate remained fixed at 0.25%. The table shows an extrapolated August rate of 3.53% based on this fixed monthly rate.

But the increases we’re seeing go even beyond that, as we also anticipated, most recently in CPI Rises. Consumer inflation has actually bottomed out and is heading higher. This is a serious departure from the media script, which says that the Fed has hiked rates aggressively enough to subdue it. This in turn means a more dovish Fed going forward and a bullish omen for stock prices.

What are they missing? The connection between asset price inflation and consumer price inflation. The former leads the latter. Asset price inflation turned higher last fall and consumer price inflation now follows suit. This echoes the prior sequence wherein asset price inflation first rocketed higher along with the explosive monetary inflation beginning in March 2020, with consumer price inflation following in 2021-2022.

How much of this media blindness is innocent and how much is willful is hard to say. The lags between asset and consumer price trends are long and variable, so connecting the dots isn’t mere child’s play. On the other hand, it would destroy the narrative we just cited: Victory over consumer inflation -> dovish Fed -> bullish for stocks doesn’t work if rising stock prices -> rising consumer prices. Wall Street is in the business of selling stocks and this doesn’t exactly make a great sales pitch.

Long time readers know I rely on first principles first, empirical data second, so that mere statistical association carries little weight on its own. The first principle is that asset and consumer price inflation are at root both reflections of the same underlying phenomenon, a depreciating currency. As the units of account lose value, it takes more of them to buy the same stuff. Prices rise. But not at the same time … assets respond instantly because they trade in real time, tick-by-tick auction markets. Consumer goods and services don’t, incorporating a lengthy chain of inputs.

Assets are also used to store value for later use and can consequently also serve as a reservoir in which the price effects of inflation accumulate before they start to spill over into consumer prices. But all value stored in assets is eventually used to buy stuff with, so there is no planet on which asset price inflation continues indefinitely without ultimately finding its way into consumer prices.

The how long for part is where it gets complicated. The best I can do there is fall back on empirical observation, and note that after the long asset price inflation of the 2010s, the 2020-2022 experience suggests the reservoir is now full. And we’re seeing that confirmed as the next wave of asset price inflation overflows into consumer price inflation within months.

But the Fed has embarked on one of the most aggressive rate hiking campaigns in memory. What’s the hangup?

Again, this turns on unjustified assumptions and tunnel vision. What requires the value of the currency to depend solely on the Fed funds rate target? Nothing. The size of the Fed’s balance sheet is at least one other factor. And aggressive as the Fed’s rate hikes may have been, the trimming of the balance sheet has been lackadaisical, dream-like. For a deep dive into this issue, check out John Hussman’s take in Central Bankers Wandering in the Woods.

Sorry Wall Street. Stock prices have to take another leg down or consumer prices another leg up.

7 thoughts on “CPI Spikes

  1. jk says:

    looks like the fed will keep tightening at the short end, [6% here we come?], the long end will not go down and maybe go up further, while money pours into the economy via deficits, treasury payments on previously issued paper, and interest on reserves.
    i think they have to stop paying interest on reserves and increase reserve requirements as a start on financial repression. meanwhile increasing inflation leading to HIGHER bond prices looks like an emerging market style development.
    i think we’ve gone through the looking glass, and monetary policy is losing out to fiscal dominance.

    1. Finster says:

      Thanks, JK. We may get your 6% yet!

      Just a couple points.

      First, the relationship between monetary and fiscal policy. Rate hikes “work” by making borrowing more expensive, leading to a contraction in credit and therefore money supply. Rate cuts do the opposite, inducing borrowing and expanding money supply. Politicians aren’t immune … it’s no accident that debt and deficits soared during the years of post-GFC ultralow rate policy, exploding higher yet on the 2020 money-palooza. But they were slower to react than the private sector due to the political nature of the budgeting process. It should come as no surprise if they likewise take longer to respond to more expensive borrowing.

      In other words, fiscal policy is a channel through which monetary policy operates as opposed to an independent variable. Without monetary accommodation, fiscal deficits alone would merely deprive the private sector of a like amount of credit, matching public sector inflation with private sector deflation. We’re seeing a bit of that already in the tight supply of lending for mortgages, etc. So the Fed can’t simply underwrite fiscal excess without limit; there has to be some fiscal restraint as well, or inflation snowballs into existential crisis.

      Second, the payment of interest on reserves was made necessary by quantitative easing. With so much money in the system, the Fed has to support rates from below in order to meet its Fed funds target. It’s not like it used to be when higher rates were a consequence of scarcer liquidity … now higher rates add to liquidity. Hussman discusses this in the linked article. So rate policy doesn’t work the way it used to either.

      It’s almost comical watching the Fed try to market rate targeting as its primary policy tool while the balance sheet actually has the upper hand.

  2. jk says:

    individuals and corporations termed out their debt when rates were low – i don’t think any other countries have 30 yr fixed rate mortgages. and of course those mortgages are now golden handcuffs, too valuable to give up by selling the house except under duress. [why didn’t the u.s. issue 50 and 100 year paper? if ARGENTINA could, for heaven’s sake….]
    the only rates currently affecting individuals [for the most part] are usurious credit card rates and auto loans. [new home builders are buying down rates to subsidize sales, and existing homes aren’t going on sale.] commercial real estate will be taking a hit in the maturity wall of the next few years. but as we’re seeing, rates haven’t worked very well- yet.
    maybe commercial real estate will be what “breaks.” also there’s a lot of shadow inventory in multi-family and single family new construction. [take a look at melody wright’s substack and twitter/x feed] so maybe real estate more broadly will be what “breaks.”
    do you think powell will pivot in such an eventuality? or will he resign? it’s hard to see him hanging in and hanging tough in the face of the political pressure that would emerge in this scenario

    1. Finster says:

      At least as long ago as when Mnuchin was TSec there was discussion of issuing longer Treasury debt at rock bottom rates. Mnuchin‘s approach? Survey Wall Street! No room for common sense. No mere Monday morning quarterbacking either; I supported longer issues at the time. Entitlements could have been put on a solid footing at least long enough to work out more permanent solutions. But no. I still wonder what good it is to have Wall Street geniuses in government rotation. Oh … wait …

      In the longer run Powell may be hoping to hold it together long enough for a successor to cope with the worst. Whoever it is will find themselves in a vice grip between an imperative to finance unsustainable debt and public outcry over painful inflation. When it gets bad enough it can become politically feasible to get aggressive with inflation … it did in the Volcker era … even in Argentina a popular presidential candidate is actually threatening to close the central bank.

      Above any statutory mandate, the Fed’s prime mission is its own survival.

      Now you hear detritus about how hard it’s supposed to be to squeeze inflation down that last couple percent. Bollocks. The only hard part is the will. Dragging it out like this just gives the Wall Street inflation lobby more time to wear you down.

      If CRE or a broader crisis erupts during Powell’s tenure … he will fold. Not necessarily without justification … if it knocks stock prices down 20%-40%, it will crush consumer price inflation. Remember in 2008 CPI followed S&P lower. The big risk comes afterward … if the Fed follows its historical habit, it won’t stop with merely stemming the crisis but maintain crisis policy long after the crisis is over. Had the Fed started to normalize rates in 2011-13 for instance it wouldn’t be in the pickle it is now. It could have avoided a lot of trouble even as late as late 2020 by backing off the monetary gas pedal when the deflationary crash associated with the covid panic was well in the rear view mirror and stock and realty prices were screaming inflation. By the time it’s showing up in consumer prices, inflation is already well advanced.

      Barney Fife had it right: “Nip it! Nip it in the bud!”

  3. Finster says:

    PPI spiked too, coming in up 0.7% over last month. Annualizing monthly figures is a bit dicey because it amplifies uncertainties, but for perspective it works out to an 8.7% rate, on top of an annualized monthly 7.8% CPI. As if to add insult to injury, WTIC just cracked $90.

    2% is looking like a long way down.