News & Analysis

US Headline inflation only just met expectations of a 0.4% MoM increase in February, with the unrounded figure printing at 0.442%.

Core inflation on the other hand marginally beat expectations for a 0.3% print, landing at 0.358% on an unrounded basis. This resulted in a slight acceleration in the annual rate of headline inflation, which rose from 3.1% to 3.2% against expectations of no change, and a slower-than-expected pace of disinflation in core, which fell just 0.1pp to 3.8%. While all is not lost in terms of the Fed’s confidence on the disinflation process seeing as nearly 70% of headline inflation was driven by energy and shelter components, over 50% of core inflation was driven solely by shelter, and the beat in the core reading was only marginal on an unrounded basis, the calculus for markets is now fairly simple: the Fed is unlikely to cut rates ahead of June. This is supported by the fact that sequential core inflation has accelerated to a 3-month annualised pace of 4.2%, and not all of this can be chalked down to shelter inflation as the Fed’s supercore measure of inflation, core services ex shelter 3-month annualised, also rose from 6.7% to 6.9%. Granted, the supercore measure overstates the amount of underlying inflation momentum for reasons we later explain, but these metrics still highlight the lingering upside risks to the disinflation trend.

Markets have had to readjust to this, having only recently priced out much of the right tail for US rates following Powell’s growing confidence in his semiannual testimonies and the downwards revision to January’s payrolls last week.

Following today’s data, pricing of a June cut has fallen 15bps to just 75%, while 18bps of cuts have been priced out for the year. In FX markets, this has translated into renewed USD appreciation, with the DXY index climbing back above the 103 handle. As we have stated in recent months, the bar to structurally sell the dollar in this half of the year remains high, a view that is supported by the latest inflation data.

The pace of underlying core inflation suggests upside risks to headline disinflation remain

As noted, amongst inflation components, energy costs and shelter remain the most significant upside contributors.

The former rose by 2.3% in February alone, ending a string of four consecutive MoM declines. The strength of energy inflation was led by hydrocarbon prices, with gasoline in particular rising by 3.8% in February. All told, while energy still fell by -1.9% on a YoY basis, it is now contributing less of a drag on overall headline inflation. In contrast, shelter continues to deliver prints above the level consistent with the Fed’s 2% inflation target. Admittedly, February’s 0.43% reading is down 0.2pp on January, but at 5.7% YoY it is still tracking at uncomfortably high levels.

Excluding these measures and other volatile components, the Fed’s preferred supercore measure of underlying inflation remains elevated at 6.9% on a 3mma annualised basis.

This, however, is a little misleading. Supercore inflation fell sharply, from 0.85% MoM in January to 0.47% in these latest figures. Even this arguably overstates the strength of underlying inflation, with transportation costs rising by 1.6% MoM largely responsible, led by the notoriously volatile airfares component rising 3.6% on the month. Given the sensitivity of prices across the index to energy costs, and with those in turn rising sharply on the month, this looks like cost passthrough as we see it rather than anything more sinister. Supporting this is the reversion of many wage sensitive components from January’s likely start-of-year price surge. Food away from home rose by just 0.1%, recreation by 0.2%, and daycare services fell from 1.2% to 0.4%. Meanwhile, medical services fell outright at a rate of 0.1%, as did personal care, falling 0.5%.

Of consumer-sensitive categories, only apparel inflation stood out, yet even then the 0.6% increase failed to reverse January’s 0.7% drop.

Much of the focus will again rest on shelter inflation today. While the Fed can take some solace from the fact that shelter inflation fell by 0.2pp from January, and the divergence in inputted prices narrowed back to historical averages, February marks yet another month where shelter inflation has failed to track alternative measures lower. While the Fed’s favoured measure of PCE assigns a lower weighting to shelter components, the persistence in shelter inflation won’t be missed by Fed officials. Should official measures not fall heading into 2H24, we think policymakers will be less inclined to discount the sub-component.

January’s perplexing divergence in types of shelter inflation normalises in February



Simon Harvey, Head of FX Analysis
Nick Rees, FX Market Analyst



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