The April (core) CPI report came in as expected. Core CPI came in solid, exactly as expected (29bps vs 30bps), and headline CPI was a bit softer than expectations (31bps vs 39bps expected). Table 1 shows our MoM forecast errors. In the last 6 months, the std error (3bps) and the std dev (7bps) of our MoM forecast for core CPI (our focus) has been excellent. Please, note that in the last 6 months, excluding January (for which we flagged upside risks), we nailed every report. Excluding January, the std error and the std dev of our core CPI forecast are 2bps and 4bps, respectively: almost impossible to do better.
Reaction to the incoming data: slightly lower near-term. Our first reaction to today’s data is to revise down (marginally) our near-term forecast for two reasons: (i) rents were a bit softer than expected, and (ii) we suspect residual seasonality is holding up a bit the seasonally-adjusted data in H1 (see slide #6 of our PDF charts package). Having said that, our revisions are more cosmetic than substantial. We now expect the YoY of core CPI at 3.2% in December 2024 (the cumulative NSA level in 2024 also suggests that the YoY could be above 3% in December 2024, see slide #4 in our PDF charts package). At the same time, we now expect the YoY of core PCE at 2.9% in December.
Evidence from our models: medium-term still above target. As we always say, you can forget about all narrative stories you read. Ultimately, sooner or later, the only thing that matters is the distribution of price changes (and pi*). Unfortunately, in CPI space it remains different than pre-Covid, raising questions whether we can reach and stay at target. The CI model suggests that there is some real broad-based pressure in today’s CPI, although a bit less than in recent months. The common component is running at 3%+ (ar) and we expect it to go sideways in the next few months. Finally, the “main” model remains above the Fed target in the medium-term.
For the Fed: it changes nothing. The models (including FRB-US) see a risk that inflation might remain above target. Today’s report changes nothing for the models, and does not alter the estimate of pi*. For this reason, we continue to think that the Fed is in “wait and see” mode (or “for longer”, in case).
Table 1. Updated MoM (sa) UnderlyingInflation forecast errors in the last 6 months.
A PDF containing all relevant CPI charts has been posted. You can download it here.
Evidence from the distributions
Distribution, still unfriendly. This month, the distribution is nearly identical to the previous month (ridge plot here). The median (Figure 2) ticked up and remains very volatile. Looking at Figure 1, the broad picture is unchanged: the distributions signal no real progress in the disinflation process. For this reason, as we wrote in previous notes, we remain careful in declaring victory or claiming that 2% is around the corner. It cannot be done right now. If anything, the evidence in Figure 1 indicates that the US economy continues to be more consistent with an inflation rate above target (3%-ish) going forward.
Please, note that the last paragraph is identical to what we wrote last month and the previous several months. On the other hand, the distribution in PCE space is more friendly. Put it simply: the distribution in core CPI space suggests a 3%+ reading, while in core PCE space it suggests around 2.5%+. If the reader is still unconvinced, another way of putting it is the following: we need to disinflate services ex rents/OER and they are still very elevated (see here the metrics).
Figure 1. Kernel of CPI excluding food and energy items changes (MoM %, 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 2. Median (core) CPI metrics
Note: the Figure shows the median (MoM %, a.r.) of the distribution of CPI prices changes excluding food and energy items (left panel) and the YoY (right panel).
Evidence from our CI-C model
Our CI model estimates that net of Covid and idiosyncratic shocks, the common component in April is solid. Figure 3 shows the decomposition of the MoM of core CPI in the “common” vs “idiosyncratic” component. The model estimates that in April the common component increased by 27bps, while the idiosyncratic shock is a small positive (2bps). The 3m/3m of the “common” component (Figure 4) is around 3%. Overall, the evidence of the CI model suggests that the “true” underlying pace of the data remains well above target.
Figure 3. Contributions to MoM changes of CPI excluding food and energy items (CI-C model)
Note: the Figure shows the decomposition of the MoM percent changes of CPI prices excluding food and energy items. The contributions are estimated using our CI-C model, a 2-stage OLS-LASSO regression model.
Figure 4. Estimated “Common” component: YoY, 3m/3m a.r. and 6m/6m a.r.
Note: the Figure shows the 3m/3m at annual rate (green line), the 6m/6m at annual rate (red line), and the YoY (blue line) of the “common component” estimated using our CI-C model.
Implications for the medium-term forecast of core PCE price inflation
The medium-term forecast remains above target. This is the first time in which we include Q2 in-sample. We are working under the Q2 nowcast of 3.2% (QoQ saar). Compared to the CPI preview run, the model forecast is largely unrevised. The model forecast is: 3.2% (Q4/Q4) in 2024, 2.8% in 2025, and 2.7% in 2026. This forecast is above the latest SEP at every horizon.
Figure 5. “Main” Phillips curve model forecast, core PCE price inflation (YoY, %).
Note: the figure shows the latest run of our “main” Phillips curve model. The confidence intervals (C.I.) are estimated using quasi-out-of-sample methods (estimate the model over a sub-sample, forecast, and calculate the root mean squared forecast errors).
Implications for the Fed Board staff and the FOMC
Fed on hold. As mentioned, today’s CPI report changes little for the Fed. Indeed, we suspect that in H2 the data will print a bit softer than in H1. But overall, the issue remains the same: the distributions show no real progress so far, the models signal upside risks in the medium-term, and pi* remains above target. Can the Fed be satisfied? Right now, hard to see that coming.