A good report for the Fed but a bit less than it looks like
We have updated our estimates of core CPI price changes distributions to include the month of July 2022.
Today’s report showed some relief (core CPI came in at 3.8% – MoM a.r.), less than markets expectations. Last month (June) the median was at 6.6% (MoM, a.r.). This month (July) it moved down to 3.8%, a level which remains above the pre Covid period.
In a nutshell, today’s report is somehow similar to the March CPI when core increased 0.3% after few months of higher readings. The truth is probably in the middle: the last few reports were “bad draws” for the Fed but today’s report is a bit distorted on the other side given the large declines in some items which should not persist going forward.
Overall, in our view today’s report has minimal implications for the Fed. Hopefully, some participants of the FOMC will not repeat the same mistake they did last March when they started the celebration dance on the 50 yard line.
Details
The distribution of MoM% changes (Figure 1) suggests that positive outliers have been more frequent in the last 12 months compared to pre-Covid. The fitted Kernel density (Figure 2) shows a thicker right shoulder in the last 12 months, indicating that price increases have been more frequent and larger than just the outliers at the end of the right tail.
Looking at the percentiles (Figure 3) we see a mixed picture. However, the left tail shows large downward movements (see 10th pct) consistent with the narrative of some items. In other words, the downward surprise does not appear to be driven by a downward movement of the entire distribution. Rather, it is driven by large declines of few items. As such, they should not persist going forward.
The standard deviation of price changes (Figure 3) ticked up but remained low, which is not a good news for the Fed given the level of the median.
Percentiles details:
- The 5th pct is -20.3% (from -21.5%)
- The 10th pct is -15.1% (from -8.8%)
- The 25th pct is -3.6% (from 1.0%)
- The 50th pct is 3.8% (from 6.6%)
- The 75th pct is 9.8% (from 15.4%)
- The 90th pct is 20.9% (from 24.7%)
- The 95th pct is 40.2% (from 28.7%)
The Kernels of the last 3 months (black line in Figure 4) continue to signal a movement to the right compared to the distribution of 3-6 months ago (yellow line), and to the one of 6-9 months ago (red line).
The median of the distribution (Figure 5 – left panel) decreased in July to 3.8%. The MA(12) of the median (Figure 5 – right panel) moved sideways in July to 4.5 percent, the highest reading of the last 20 years.
Implications for the Fed Board staff
Today’s reading should have little implications for the Fed Board staff because, in our view, the July CPI has come in broadly as expected by the Fed staff.
In our “Pre July FOMC Meeting” package we assumed that the staff was expecting about 34bps in core CPI space (and 4.4% ar in Q3 in core PCE space). Therefore, in our view, today’s data change very little for the Fed staff and should not affect the Fed staff models estimates going forward.
For this reason, we do not expect any change of the FOMC in terms of communication or commitment to fight inflation. Today’s “good” report implies core (CPI) prices at about 4% annualized: it is still way too high.
Figures
Figure 1. Distribution of MoM changes (CPI prices ex food and energy items, % a.r.)
Note: the Figure shows the distribution of MoM percent changes at annual rate of CPI prices excluding food and energy items.
Figure 2. Kernel of CPI excluding food and energy items changes (%, a.r.)
Note: the Figure shows the fitted Kernel (Epanechnikov) distribution of MoM percent changes at annual rate of CPI prices excluding food and energy items.
Figure 3. Percentiles and Standard Deviation of the distribution of MoM changes (CPI prices excluding food and energy items, % a.r.)
Note: the Figure shows the distribution percentiles of CPI prices changes excluding food and energy items (left panel), and the cross-sectional standard deviation (right panel).
Figure 4. Kernel of CPI price changes excluding food and energy items (%, a.r.)
Note: the Figure shows the fitted Kernel (Epanechnikov) distribution of MoM percent changes at annual rate of CPI prices excluding food and energy items (for a total of 183 items).
Figure 5. Median CPI price increase (%, a.r.) and MA(12) of the median
Note: the Figure shows the median (%, a.r.) of the distribution of CPI prices changes excluding food and energy items (left panel) and the MA(12) of the median (right panel).