U.S. inflation doesn't look like it's going away anytime soon.
Consumer prices rose 0.5% in January, the most in three months, and the annual inflation rate came in at a higher-than-expected 6.4%. In some key categories, from energy to various goods such as clothing, the slowdown in costs that was a feature of the final months of 2022 looks to have stalled out — or even reversed.
What's more, the January numbers follow revisions to last year's data that already tempered the narrative of how much inflation is actually easing.
All of this shows how price pressures risk getting entrenched in the world's biggest economy — the outcome that the Federal Reserve is battling to prevent. And with an unexpectedly strong job market in early 2023, there's a growing likelihood that the central bank will keep hiking interest rates deeper into the year to cool things down.
"Inflation is not going away quietly," wrote Wells Fargo economists Sarah House and Michael Pugliese. "Getting back to an inflation rate the Fed can live with on a sustained basis will neither be quick nor painless."
Foreseeing tighter money, Treasury bonds retreated after the inflation report. Two-year yields climbed to their highest point since early November. Traders stepped up bets that the Fed will hike rates three more times by the end of June. The S&P 500 fell.
Inflation has already come down from a peak above 9% last year — the highest rate seen in four decades. Analysts who expect the slide to resume in the coming months point above all to the housing market.
Housing costs were by far the biggest contributor to the monthly increase in the consumer-price index, accounting for almost half of it. But, because of the way those numbers are calculated, there's typically a significant lag before real-time market conditions — which suggest the pandemic housing boom is over — show up in the government's inflation figures.
"We still expect the disinflationary process to re-accelerate soon, as easing shortages push core goods prices lower, housing inflation slows and labor market conditions cool," Andrew Hunter, senior U.S. economist at Capital Economics, said in a note.
What the Fed is waiting for
One thing that Fed officials say they're watching closely is the cost of services excluding housing and energy — a broad grouping that covers everything from haircuts to gym memberships. Wages are thought to be a key driver of prices in the category, and Americans have been spending more of their monthly budgets on services after a goods-buying boom during the pandemic.
One measure of services prices that strips out housing eased slightly from the prior month, according to Bloomberg calculations, though the slowdown was largely driven by a sharp drop in medical costs.
Even as inflation begins 2023 with plenty of momentum, most economists still expect it to be much lower by the end of the year. Forecasters are split as to whether such a decline can occur without tipping the economy into recession, a question that may hinge on how far the Fed will go.
"When the Fed raises interest rates, it acts with a lag," with rate-sensitive industries like housing and technology feeling the pressure first, said Beth Ann Bovino, chief U.S. economist at S&P Global Ratings.
"We haven't really seen it spread to other areas of the economy," she said. "And that's what I think the Fed is waiting for."
— With assistance from Augusta Saraiva and Vince Golle
