- Key relief has come from positive supply side developments on food and energy
- Surveys show manufacturers are seeing easing of input price pressure
- Inflation expectations are well anchored
- Jobs, wages, and rents however are still growing robustly
- Meanwhile, China slowdown gets more pronounced. We expect 3.5% growth in 2022
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Commentary: Gauging (dis) inflation trend
Monthly inflation prints seldom draw the attention of the president of the United States. But such is the concern with prices these days that President Biden felt it compelling to cite the fact that on a month-on-month basis, July CPI was flat. This brought down headline inflation to 8.5%yoy in July, from 9% in June. Markets welcomed this development with a major sigh of relief, with rate hike expectations moderating somewhat and equities rallying.
The relief has been in the making for about a month. Some favourable developments on the commodity supply side (modest production increased announcement by OPEC, Turkey-mediated deal to move wheat shipments out of Ukraine) have helped the price spike from March/April to all but fade. Global wheat prices, up 90%yoy just a few months ago, are now flat on a yoy basis, a substantial piece of good news. Crude oil, which hit USD120+ in March and June, is now hovering around USD90, translating into sizeable relief in petrol pump prices. As a result, over the past couple of months, manufactures have started report a fairly sharp decline in prices they face.
A series of Fed surveys reveal that among regional manufacturers, prices paid for a variety of inputs have been softening in recent months.
Does this mean that manufactures are no longer raising prices? Turns out the answer to that question is yes, but too early tell for sure. The NFIB Small Business Survey, which asks companies if they are raising prices presently or planning to raise prices soon, saw the first dip in response on both counts in the last two months, rather striking as that came after nearly two years of relentless increase.
But beyond commodity prices, is there more avenues for comfort for the Fed? Have rate hikes of this year, as well expectations of another 100bps in rate hike the rest of the year, managed to begin denting jobs and wages? So far, that is still very much up in the air. Some job cuts have been announced here and there, especially in the tech sector that has been dealing with some dissipation of frothy valuations. But wages are growing strongly, and so are rents despite property markets facing headwinds from rising mortgage rates.
Other than leisure/hospitality, which is characterised by a rather severe shortage of labour, wage growth rates in most sectors, even at mid-single digits, have lagged inflation. We expect this is to keep wage demand strong as workers deal with weakening purchasing power. If employers, facing narrowing margins and fearful of weakening demand, react by cutting jobs, then wages will stabilise, but that dynamic has yet to emerge. Perhaps in the coming months we will see vacancy rates fall, followed by a rise in unemployment, from which wage moderation will be likely outcome. But unless the economic news turns acutely adverse, this is likely to play out over many months, testing the Fed’s resolve.
Despite criticisms that the Fed was behind the curve for too long, market- based measures of medium-term inflation expectations remain well-anchored. In the US, 5x5 inflation expectations are below 2.5%, while it is less than 2% in Europe. There are many challenges associated with the prevailing high inflation rates, but it is striking that central bank credibility has yet to be a casualty.
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