No Single Culprit for April’s Weak U.S. CPI

No Single Culprit for April’s Weak U.S. CPI

The U.S. core Consumer Price Index (CPI) recorded another soft print in April, at 0.07% month-over-month, followingvery weak results in March (-0.122%). But unlike in March – when weaknesswas primarily attributable to the largest-ever monthly decline in wirelessservices – April’s weakness was broad-based, reflecting softness in a rangeof core goods and services. As a result, we’ve reduced our 2017 year-endcore U.S. inflation forecast to 2.0% from 2.3%. Negative residualseasonality, which tends to be a drag in the latter half of the year, maybe a headwind to our forecast and could further moderate the rate forfourth-quarter 2017 relative to the same quarter last year.

The noticeable softening in inflation increases the pressure on FederalReserve policymakers to explain their presumed plan to hike interest ratesin June. While still-easy financial conditions and a 4.4% unemployment ratecould help the Fed craft a coherent story for June, continued weakinflation could complicate further hikes later this year. Based on thisreport and the latest Producer Price Index (PPI), we calculate that theyear-over-year rate of personal consumption expenditure (PCE) inflationcould fall to 1.4% in April from 1.6% in March, and we now believe it willbe closer to 1.5% at the end of fiscal 2017. This compares with the FederalOpen Market Committee (FOMC) median projection of 1.9%.

No single smoking gun, though core goods disappoint

Both new and used auto prices declined further in April after falling lastmonth, in what appears to be the start of a more meaningful trend. Industryreports indicate that an increase in vehicle leases over the past severalyears has created a glut of used autos. This is pressuring wholesaleused-car auction prices, which tend to lead the CPI by around three months.

Other core goods were also soft in April, with recreational goods,furnishings and apparel showing declines. China consumer goods price trendsand the exchange rate can have a meaningful impact on these prices.However, despite an acceleration in the China PPI last year, a closer lookreveals that price pressures were concentrated in industrial metals, whichare unlikely to affect the U.S. CPI (although they will likely influenceU.S. PPI and import prices). Finally, medical goods prices fell in April onthe largest-ever decline in prescription drugs prices, likely due to majordrugs going off patent.

Core services languish

Core services inflation was also below trend in April, at +0.14%, after a0.06% drop in March resulting from the plunge in wireless services. Rents(+0.3%) and owner’s equivalent rent (OER) inflation (+0.23%) wereconsistent with our forecasts for some modest deceleration. Rents in thelargest 10 cities continue to moderate in line with the glut of multifamilyhousing supply, but outside those cities, low inventory of affordablehousing continues to support a firmer 3.5% year-over-year pace of rentalinflation. Meanwhile, medical service prices were weak in April due to thelargest-ever decline in physicians’ services, and transportation services,recreation services and education were all flat to down.

In a nutshell, unlike in March, April’s soft inflation across a range ofcore goods and services prices cannot be explained away by large, one-offprice adjustments or other quirks in the data. We’ve revised our U.S.inflation forecast accordingly.

Readers interested in the interplay of inflation and rates can learn more at our Rise Above Rates page:

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Tiffany Wildingis a PIMCO economist focusing on the U.S. and is a regular contributor to the PIMCO Blog.

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