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The government’s inflation report for September was a mix of good and bad, but one that tilts to the good. Average prices rose 0.2%, or 2.4% for the previous 12 months, the lowest inflation rate in three and a half years. The bad news: Used and new motor vehicle prices rose for the first time in four months, and health care services, car repair, car insurance and air travel costs rose strongly. Food prices rose a bit more than usual. These all caused inflation excluding volatile energy prices to tick up. The good news: Shelter costs rose less than normal, and appear to be finally reflecting the lower rent and home price increases that the Federal Reserve has been expecting. Energy costs declined, though that may not last into October, given the recent pickup in crude oil prices on tensions in the Middle East. Hotel costs reversed their jump in August. Prices of prescription drugs declined.
The upshot: The strength in non-shelter services inflation will be worrisome to the Fed because inflation in this sector tends to be persistent. But shelter is the single biggest component of the index, and a declining inflation trend here can counterbalance the other services categories. All in all, this report should allow the Fed to continue cutting interest rates, albeit slowly.
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Annual inflation numbers for the rest of this year are not likely to drop below the September rate of 2.4%. This is the result of the relatively soft price increases that took place in the fourth quarter of 2023, which will make year-over-year comparisons in the upcoming Consumer Price Index reports seem like little progress is being made on inflation. But markets and economists will be focused on the month-to-month changes, since these will point to whether inflation is slowing now. If those monthly improvements continue this autumn, then expect the more widely followed annual inflation rate to show a significant move towards the Fed’s target of 2% to 2.5% in the early months of 2025.
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