Broad-Based Price Increases Signal Potential for Persistent Inflation | Lord Abbett
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Economic Insights

The October CPI (Consumer Price Index) report suggests higher inflation could last for longer.

Read time: 2 minutes

The Bureau of Labor Statistics’ October CPI report reflected a rise in consumer prices that was well above expectations. Both the headline CPI and the core CPI, which excludes food and energy costs, were pushed to new 31-year highs with year-over-year increases climbing to 6.2% and 4.6%, respectively. Strong demand for goods has been the main driver of rising prices, but the report also showed strength in services inflation and could suggest higher inflation may last longer.

The CPI rose by 0.9% in October, and the core CPI rose by 0.6%, 0.3% and 0.2% more than expected, respectively. The overshoot was broad-based, including components such as rents and food away from home that are driven by strong demand, and that tend to be persistent sources of higher inflation. In addition, medical care inflation picked up sharply, a development that, if it were to continue, would make forecasts for 2022 untenably low.

 


Source: U.S. Bureau of Labor Statistics and Lord Abbett. Data as of 10/31/2021. The historical data shown in the chart above are for illustrative purposes only and do not represent any specific portfolio managed by Lord Abbett or any particular investment.

 

While services inflation has been picking up gradually, the current surges in both headline and core inflation have been driven by extremely strong demand for goods. Two-year average inflation rates that smooth over base effects from the pandemic show that core services inflation is below what it had risen to in 2019, while core goods inflation is sharply higher.

 


Source: U.S. Bureau of Labor Statistics and Lord Abbett. Data as of 10/31/2021. The historical data shown in the chart above are for illustrative purposes only and do not represent any specific portfolio managed by Lord Abbett or any particular investment.

 

But with the key drivers of services inflation—rents, medical care services, and food away from home—showing clear signs of picking up sharply, as COVID risk fades, we think inflation is likely to remain well above the Fed’s (Federal Reserve) 2% target in 2022.

The food industry illustrates the dilemma: as demand shifts from food at home (goods) to food away from home (services), inflation has remained high in the latter and picked up in the former as restaurants are forced to pay up for workers.

 


Source: U.S. Bureau of Labor Statistics and Lord Abbett. Data as of 10/31/2021. The historical data shown in the chart above are for illustrative purposes only and do not represent any specific portfolio managed by Lord Abbett or any particular investment.

 

The same thing is happening in medical care, and throughout the services sector, as reopening proceeds. Thus, unless goods demand collapses, something we view as unlikely since supply has fallen short of demand for many months in a variety of products, including the large motor vehicle sector, any deceleration in goods inflation is likely to be too modest to offset an acceleration in services. We believe that will be especially true in the case of rents, since vacancy rates are close to forty-year lows, and the housing shortage will take years to be eliminated.

Fed Policy Implications

While unexpectedly high inflation in the first half of 2021 could be ascribed to a few products that were in short supply—used cars being the prime example—price increases have broadened out across goods and services. The short-term fixed income market has been duly adjusting to anticipated changes in Fed posture, with the 2-year rate at a 21-month high, implying five rate hikes over the next two years. We believe the risk of more persistent inflation is now decisively skewed to the upside, and long-term rates will need to adjust for this uncertainty.

 

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Glossary Definitions

The U.S. Consumer Price Index (CPI) is a measure that examines the weighted average of prices of a basket of consumer goods and services, such as transportation, food, and medical care. It is calculated by taking price changes for each item in the predetermined basket of goods and averaging them.

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