Inflation eases less than expected

Markets take a hit; investors fear Fed will delay lowering rates

Inflation cooled less than expected in January and showed worrying staying power after volatile food and fuel costs were stripped out — a reminder that bringing price increases under control remains a fraught, bumpy process.

The overall consumer price index was up 3.1 percent from a year earlier, which was down from 3.4 percent in December but more than the 2.9 percent economists had forecast. That figure is down from the latest peak of 9.1 percent in the summer of 2022.

But after stripping out food and fuel, which bounce around in price from month to month, “core” prices held roughly steady on an annual basis, climbing 3.9 percent from a year earlier. The measure jumped by the most in eight months on a monthly basis.

Inflation was cooler in the Boston area in January, rising 2 percent over the past year. Energy costs fell almost 14 percent compared with a drop of 4.6 percent nationally. Excluding food and energy, prices were up 3 percent.

The Federal Reserve will likely take the fresh report as a reminder that they need to remain cautious. Policy makers have been careful to avoid declaring victory over inflation.

American consumers, the White House, and Federal Reserve officials had welcomed a recent moderation in inflation. Central bankers in particular will likely take the fresh report as a reminder that they need to remain cautious. Policy makers have been careful to avoid declaring victory over inflation, insisting that they needed more evidence that it was coming down sustainably.

Investors pared back chances for an imminent Fed rate cut, betting that central bankers will not lower interest rates at their next meeting in March and dialing back the odds that it will do so even at their meeting in May — a sign that they think the fresh inflation figures will keep officials wary. Stock markets tumbled as traders revised their forecasts for Fed actions.

Treasuries sold off, with two-year yields hitting the highest since before the December central bank “pivot.” Swap traders ratcheted down their expectations for a Fed cut before July. The stock market’s “fear gauge” — the VIX — surged the most since October. And a measure of perceived risk in the US investment grade corporate bond market

soared — with three issuers getting sidelined.

“Today’s CPI report caught a lot of people off guard,” said Chris Zaccarelli at Independent Advisor Alliance.

“Many investors were expecting the Fed to begin cutting rates and were spending a lot of time arguing that the Fed was taking too long to get started – not appreciating that inflation could be sticky and not continue down in a straight line,” Zaccarelli added.

The CPI data came as a disappointment for investors after a recent downdraft in price pressures that helped build expectations for rate cuts this year. The numbers also gave credence to the wait-and-see approach highlighted by Jerome Powell and a chorus of Fed speakers.

The S&P 500 fell 1.4 percent, dropping below 5,000 in its worst CPI day since September 2022. Rate-sensitive shares like homebuilders and banks sank, while Tesla Inc. led losses in megacaps.

The Russell 2000 of small caps slumped about 4 percent. US 10-year yields climbed 14 basis points to 4.31 percent. The so-called real yield hit 2 percent. The dollar rose, driving gold under $2,000. In late trading, Lyft Inc. soared on a bullish outlook.

“It is too early to declare victory over inflation,” said Torsten Slok at Apollo Global Management. “Maybe the ‘last mile’ was indeed more difficult.”

Fed policy makers have raised interest rates to about 5.3 percent, up from near zero in early 2022, in a bid to cool consumer and business demand and force companies to stop raising prices so quickly.

Because inflation has been coming down notably in recent months, they have paused their rate increases and are contemplating when and how much to lower borrowing costs.

But they want to avoid cutting rates before inflation is fully snuffed out, because they worry that doing so could allow rapid price increases to become a more permanent feature of the US economy.

“They were right to be patient, because this is the kind of number that is going to cast doubt on whether there really is a lot of deceleration in store for inflation,” said Omair Sharif, founder of Inflation Insights. “This is definitely a spooky number.”

Part of the problem with Tuesday’s report, from the Fed’s perspective, is that the pickup in the core inflation index came from services: Prices for airfares, hotel rooms, haircuts, and financial help all climbed in January. Service inflation tends to be driven by slow-moving forces like wage growth, and it can be very stubborn.

And while the hotter-thanexpected inflation figures were just one month of data, they came alongside other evidence that the economy was growing more quickly than expected.

Hiring picked up in January, wage growth was solid, and consumers continue to spend.

So far, bringing inflation down has been less painful than economists had expected.

Many had predicted it would take a substantial cooling in the economy — and a jump in unemployment — to lower price increases. Instead, inflation has fallen gently even with a strong job market.

The cool-down came partly as supply chains healed. Prices for goods started jumping in 2021 as shipping route and factory disruptions tied to the pandemic left semiconductors, automobiles, and furniture in short supply.

For a while, it seemed like that was happening, but the trend stalled in January. Economists are likely to watch the next several months of data to determine whether that is a blip or the start of a new and concerning trend.