U.S. inflation continued to accelerate in January, with a 0.349% month-over-month advance in core Consumer Price Index (CPI) inflation (which excludes food and energy prices) – the strongest gain since 2001. We attribute advances in the January print in part to methodological changes and a bounce in retail prices after strong holiday discounting. More broadly, core CPI inflation appears to have bottomed in August, and as expected, we’re seeing some acceleration in 2018. Looking ahead, we now expect core CPI inflation will reach 2.2% year-over-year in 2018, which is slightly higher than what we expected just two months ago.
Retail prices rebound
Core CPI received a strong boost from retail goods prices, which increased 0.62% in January, the largest one-month gain since 2009. The rebound followed heavy holiday discounting in November and December – a trend we’ve observed since 2014, when e-commerce retailers started gaining market share at an accelerating rate. Price gains in apparel were especially firm (at 1.7% month-over-month), and laundry equipment pricing also surged after the recent announcement of tariffs on washing machines.
Used auto prices record a surprise gain
Used auto prices were also firm, increasing 0.4% month-over-month in January, despite reported declines in used car auction prices reported by Manheim and the North American Dealer Association (NADA). However, an update to the Bureau of Labor Statistics (BLS) methodology for computing used auto prices that went into effect for the January report may have introduced some upward bias, and we continue to believe that as hurricane-related auto replacement demand cools, so too should pricing trends.
Core services hold firm
Finally, core services prices turned in a 0.34% month-over-month rise, with support from firming medical services prices. Medical services inflation has been volatile in recent years, accelerating dramatically in 2016 only to slow just as dramatically in 2017. A structural decline in sample response rates may be contributing to the volatility; however, we have found that employer health insurance costs have tended to lead medical services CPI inflation by one to two quarters, and imply a reacceleration in healthcare inflation in 2018.
Smoothing through the noise, we forecast U.S. core CPI inflation will reach 2.2% in 2018, and the risks around our forecasts appear more balanced than they did in 2016. Fiscal stimulus amid slowing payroll growth and rising economic capacity constraints should coincide with building inflationary pressures. In this context, the recent repricing of inflation risk premiums and Treasury Inflation-Protected Securities (TIPS) breakevens appears appropriate, as investors rethink their portfolios’ exposure to inflation risks.
For more of PIMCO’s views on the complex drivers of inflation in the U.S. and globally, please visit our inflation page.
Tiffany Wilding is a PIMCO economist focusing on the U.S. and is a regular contributor to the PIMCO Blog.