Here comes US deflation
The red line denotes the US producer price index (exservices), which leads the US consumer price index (exshelter) by one month (blue line) with a correlation of 93.8. Wednesday will see the US CPI release for April with consensus expectations pointing to a core reading of 2.1%, down from 2.2% in March. I would simply note the following:
1) In each US recession since 1955 the CPI has peaked during the contractionary part of the cycle and started to fall once the economy really began to hit the skids.
2) Since 1955, each time that “final domestic sales” growth — from the GDP report — fell below 2% a year, both the CPI and the PPI declined and kept falling until the 2% threshold was again exceeded.
3) If US growth in 2Q16 proves as weak as indicated by recent data, then the effect of a strong 2Q15 comparator will cause the annual growth rate of final domestic sales to fall below 2% (they are now 2.29%).
4) In such an eventuality, both PPI and CPI would likely start to decline.
5) Both the CPI (ex-shelter) and PPI (ex-services) have recently recorded year-on-year falls. Looking forward, declines in both indices will probably intensify with quite a few prices seeing outright declines.
It must, of course, be accepted that the unadjusted CPI and Personal Consumption Expenditure price indexes remain in positive territory. My point is that this is due to the cost of shelter being driven up by asinine policy responses, and also the impact on health costs from “Obamacare”.
Pushing up the price of shelter and health insurance can be thought of as a tax rise as the impact is to reduce disposable income for the average consumer. The effect will be to apply downward pressure on all other prices and consequently on the profits of companies operating in these markets. Seen in these terms, is it any great wonder that US long bond rates are declining? In my view they will keep falling.