Tag: monetary policy

Inflation and jobs

Posted on by Paul Gomme

We are finally seeing jobs numbers for October and November. The Bureau of Labor Statistics press release studiously failed to mention the loss of 105 thousand jobs in October — except to mention the 162 thousand fall in federal government employment. Perhaps this omission is a leftover from Trump having fired the previous head of the BLS after the BLS revised the May and June employment numbers down. With September employment revised down to 108 thousand (from 119 thousand), there was a scant 3,000 increase in employment over September and October. November delivered an anemic 64 thousand job gain.

As noted in the BLS press release, due to the Federal government shut down, the household survey for October was not collected. In the figures using household survey data, we have allocated half of the change from September to November to each of October and November (and omit the October figure to emphasize that this data is unavailable).

The unemployment rate is similarly missing for October 2025. The November unemployment rate rose to 4.56%, up from 4.44% in September. This is the highest unemployment rate in four years.

Overall, the employment numbers are fairly weak. Although average weekly hours rose from 34.2 to 34.3, so that total hours of work in the US rose. Moreover, firms continue to be opening jobs at a relatively high rate even though the hiring rate has been falling.

Inflation

There were two price index reports released, the September PCE and the November CPI. The September monthly (annualized) PCE rose slightly, from 3.14% to 3.27%. Our preferred trend measure rose from 2.70% to 2.89%. The Fed’s inflation measure of choice, the core PCE (PCEX) fell from 2.68% to 2.40% and our trend measure also fell, from 2.82% to 2.68%. While core PCE inflation is moving in the right direction, it is still above the FOMC’s 2% target.

Due to the federal government shutdown, October data for the Consumer Price Index was not collected. Below, the November CPI inflation rate is the average for the two months from September to November. The monthly annualized CPI rate for October November averaged 1.23%, down from 3.79% in September and our trend measure fell to 2.19% (October-November) from 3.38% in September. In the graphs below we have included the November number with dots. Annualized core CPI inflation was 0.92% in October-November while the trend measure was 1.94%.

Certainly good news on the inflation front: the last reading on the Fed’s preferred core PCE inflation measure moved down (albeit still above target) and the more timely CPI measures have continued downward, a trend that hopefully will soon be reflected in the PCE inflation measures. As inflation approaches target, the inflation hawks on the FOMC will have less reason to insist on keeping interest rates high. At the same time, the slow hiring in the labor market should allow some to argue more strongly for more rate cuts.

September CPI Inflation

Posted on by Paul Gomme

On Friday, the Bureau of Labor Statistics released Consumer Price Index data for September. While the annualized month-over-month CPI inflation rate fell (from 4.69% in August to 3.79% in September), the annual rate rose (2.94% to 3.02%) as did our measure of trend (from 3.18% to 3.38%).

Core CPI inflation provides a glimmer of good news: the monthly, annual and trend rates all fell. The annualized monthly inflation rate fell from 4.23% to 2.76; the anual rate from 3.11% to 3.03%, and our trend from 3.38% to 3.17%.

Policy Outlook

Rather than speculate as to what the FOMC is likely to do with its policy rate at its upcoming meeting, we’ll focus on what the committee should do. Keep in mind that the FOMC primarily looks at core PCE inflation, not (core) CPI inflation. However, the PCE data is not scheduled to be released until Friday while the committee meets Tuesday and Wednesday. (Given the federal government shutdown, we were taken by surprise when the BLS released the CPI numbers; we have no idea whether the BEA will similarly release the PCE data on Friday.) Keeping in mind that on average CPI inflation runs ½ percentage points higher than the corresponding PCE inflation rate, our trend measure of core CPI inflation for September suggests that trend PCE inflation can be expected to be around 2.7% – 0.7 percentage points higher than the FOMC’s target of 2%. Alternatively, if the change in trend core PCE inflation is the same as for trend core CPI inflation (0.2 percentage points), expect a PCE inflation rate just over 2.6% – again higher than target. Further lowering the Fed’s policy rate is not warranted given these inflation numbers. As many know, the Fed has a dual mandate and has indicated that the risks of a labor market slowdown has become a major factor in the decision making process. Unfortunately, the BLS has not released the latest employment numbers.

PCE Inflation: Still Too High

Posted on by Paul Gomme

By Paul Gomme and Peter Rupert

About the only good thing that can be said about the incoming PCE inflation data: It could have been worse. At an annual rate, the month-over-month overall PCE inflation rate popped up to 3.22% in August from 1.97% in July; the corresponding core PCE inflation rate slipped from 2.86% to 2.76%. The annual (year-over-year) PCE inflation rate rose from 2.60% to 2.74%; core, from 2.85% to 2.91%. Finally, our measure of trend PCE inflation rose to 2.72% from 2.46%; trend core PCE inflation fell slightly to 2.84% from 2.88%.

And exactly what is so troubling in terms of the real side of the economy? Granted, there have recently been some very low employment numbers. Yet, a broader look at the labor market doesn’t add up to ringing the alarm bell and lower rates. In terms of job openings, outside of the pandemic, the rate of job openings is pretty much the highest it has ever been. There has been no obvious change in the rate of layoffs. The unemployment rate remains quite low by historical standards. Real gross domestic product was recently revised up, from 3.3% to 3.8%. Using monthly data on non-farm payroll
employment, industrial production, real personal income excluding transfer payments,
and real manufacturing and trade sales, the probability of being in a recession (here is the Piger website) is 1.0%.

Policy Outlook

In the FOMC’s recent announcement reducing its policy rate by 25 basis points, the committee expressed its opinion that the balance of risks has shifted towards unemployment…and away from inflation. We stand by our earlier opinion that job number 1 for the Fed is low and stable inflation; good real-side outcomes will ultimately result from executing on the inflation front. The risk to the policy outlook is that 3% inflation is the new de facto target, up from the stated 2% target. Already, short-term inflation expectations have risen. Experience from the 1970s and 1980s tells us that it is economically painful to reduce expected inflation. Responsible policy would see the Fed bringing inflation back down to its 2% target, with fiscal policy addressing the jobs situation.

July PCE inflation

Posted on by peter.c.rupert

by paul gomme and peter rupert

The BEA announced that inflation as measured by the annualized month-over-month change in the Personal Consumption Expenditure (PCE) price index fell from 3.49% (June) to 2.40% (July) on an annualized basis. Our corresponding measure of trend inflation also fell, from 2.63% to 2.55%. However, the annual (year-over-year) measure rose slightly, from 2.56% to 2.60%.

As is well known, the FOMC concentrates more on core PCE inflation (that is, excluding the “volatile” food and energy components). Core inflation rose across the three measures we regularly report. The annualized month-over-month rate rose from 3.20% to 3.33%; the year-over-year from 2.77% to 2.88%; and our measure of trend from 2.80% to 2.98%.

The PCE inflation results were foreshadowed by the earlier CPI release.

Earlier this week, the BEA also released its second estimate for quarter 2 Gross Domestic Product. In brief, output growth was revised up from 3% to 3.3%.

Policy Outlook

We’ll organize our discussion of the policy outlook around the Taylor rule which prescribes setting the FOMC’s policy rate, the Federal funds rate, based on: (1) the “neutral” Fed funds rate, given by the sum of the real interest rate and the inflation rate; (2) how much the inflation rate exceeds target; and (3) some measure of real activity like the output gap (potential output less actual) or the unemployment rate gap (the actual unemployment rate less its natural rate). (For those wishing to play around with different scenarios, the Atlanta Fed has a web page for that.)

While in theory each of these components is well defined, in practice they are not. Start with inflation. Measuring inflation seems pretty straightforward, particularly since the FOMC has stated its preference for core PCE inflation. At what horizon should inflation be measured? As we’ve harped on in the past, the month-over-month rate is too volatile while the year-over-year rate takes a long time to capture changes in trend. Suppose that the FOMC uses something conceptually similar to our measure of trend inflation. We still face the problem of accounting for transitory phenomena like Trump’s tariffs. Some folks (including some members of the FOMC) argue that these tariffs have pushed up the price level without changing the underlying trend. As a result, measured inflation will be higher, but this does not reflect a change in trend. As always, the devil is in the details: How much of current inflation is due to these transitory factors?

Next, measuring gaps is hard and subject to measurement error. The output gap requires knowing potential output which is the level of aggregate output that the economy could produce with current resources (labor force, capital, etc.) used at typical intensities. Similarly, the unemployment rate gap depends on the natural rate of unemployment: the rate that would prevail in the long run absent shocks. Both potential output and the natural rate of unemployment need to be estimated and so are subject to uncertainty. Further, the current environment is sending mixed signals regarding the real side of the economy. Output growth for the second quarter is humming along quite nicely, but this growth comes on the heels of a disappointing first quarter. The revised job creation data suggest an anemic labor market, but the unemployment rate is still low.

Finally, the neutral Fed funds rate suffers not only from the inflation issues discussed above, but also problems in measuring the real interest rate. The problem for those arguing that the current Fed funds rate is too restrictive — meaning that it’s above its neutral rate — is that we don’t really know that neutral rate.

Those advocating cuts to the Fed funds rate argue some combination of: (1) monetary policy is too tight: the Fed funds rate is well above its neutral level; (2) while inflation is above target, this is due to transitory factors like Trump’s tariffs; and (3) the real side of the economy is weak as evidenced by the job creation numbers.

The case for no change is built on: inflation is too high (and increasing of late) and therefore a restrictive monetary policy is appropriate, and there are mixed signals from the real side of the economy.

The political pressure being applied to the FOMC adds yet another complication. To grasp the nature of this problem, keep in mind that the Fed controls one interest rate: the Federal funds rate which is an overnight rate relevant to banks. The following discussion also makes use of the Fisher equation which states that the nominal interest rate is the sum of the real interest rate and expected inflation. Given that inflation is above target, the risk of cutting the Fed funds rate is that market participants may view the Fed as caving to political pressures to lower interest rates. In turn, market participants may well question the Fed’s credibility and its commitment to low, stable inflation. As a result we would expect a rise in inflation expectations. Then, via the Fisher equation, such an increase in expected inflation will lead to a rise in market interest rates in order to compensate investors for the higher inflation they anticipate. Paradoxically, the political pressures on the Fed make it important for the Fed to keep the current level of the Fed funds rate in order to maintain the Fed’s political independence and credibility. No one wants to be painted as the second coming of Arthur Burns. Here is a fascinating podcast describing how Arthur Burns capitulated to Richard Nixon, bringing about the worst inflationary episodes in recent U.S. history.

CPI Inflation Pops Up in June

Posted on by Paul Gomme

By Paul Gomme and peter rupert

Late this month, we’ll get data on core PCE (personal consumption expenditure) inflation — the measure favored by the Fed. In the meantime, we have CPI inflation which is a noisy signal of what to expect of PCE inflation. The signal points to higher inflation. On a year-over-year basis, core CPI inflation rose from 2.77% to 2.91%. However, this measure of inflation responds slugglishly to changes in trend. The annualized month-over-month rate popped up from 1.57% to 2.77%, or 1.2 percentage points. Meanwhile, our trend measure increased by 0.15 percentage points, from 2.30% to 2.46%.

Overall CPI inflation paints a similar picture: the month-over-month rate rose from 0.97% (annualized) to 3.50; the year-over-year from 2.38% to 2.67%; and our trend measure from 1.91% to 2.43%.

Policy Implications

No doubt, some will attribute at least some of this increase in CPI inflation to the effects of the Trump tariffs. In our opinion, this sort of attribution will require deeper analysis than is afforded by the Bureau of Labor Statistics’ CPI release, and may only be knowable when we have several more months (or years) of data.

If PCE inflation for June (to be released on July 31) similarly increases, FOMC doves and those auditioning to be the next Chair of the FOMC will have a hard time making a convincing economic case for lowering the Fed’s policy interest rate; especially since the real side of the economy has managed to withstand tariff threats and geopolitical intrigue.

April PCE Inflation

Posted on by Paul Gomme

Mostly good news regarding PCE (Personal Consumption Expenditure) inflation. While the annualized monthly core PCE inflation rate rose from 1.3% (March) to 1.4% (April), this rate is nonetheless below the Fed’s 2% target. Further, the annual core PCE inflation rate slipped from 2.67% to 2.52%. And our measure of trend core PCE inflation dropped from 2.94% to 2.43%.

The picture is much the same for overall PCE inflation: The annualized monthly rate rose from 0.14% to 1.21% (again, below the Fed’s 2% target); the annual rate fell from 2.31% to 2.15%; and our measure of trend dropped from 2.59% to 2.13%.

The report indicated that real disposable personal income ticked up to its highest level since January, 2024.

We won’t prognosticate on the likely course of monetary policy since Fed Chairman Powell has already said that the FOMC will wait until the data indicates that the committee should change its policy rate. Chairman Powell also foresees stagflation for the US: a combination of higher inflation and a deteriorating real side of the economy.

Oopsie: PCE inflation pops up

Posted on by Paul Gomme

CPI inflation for February (released a couple of weeks ago) brought the prospect of lower PCE defaltor inflation. It didn’t happen. On a year-over-year basis, PCE inflation barely changed, increasing from 2.52% (January) to 2.54% (February). While the annualized month-over-month rate fell, from 4.12% to 4.01%, our measure of trend rose from 3.06% to 3.38%.

Similarly, core PCE inflation (that is, excluding food and energy) rose in February: the monthly rate from 3.64% (January) to 4.47% (February); the annual rate from 2.66% to 2.79%. Our measure of trend core PCE popped up from 2.72% to 3.37%.

Core measures of PCE inflation have moved away from the FOMC’s 2% target. On the basis of these numbers, it seems unlikely that the Fed will be delivering interest rate cuts in the next few months.

PCE inflation for goods (durable plus non-durable) had been subdued for the past couple of years, actually falling for seven out of the last ten months. Recently, however, goods price inflation has been climbing and is now the highest since 2022. Service price inflation has been high and is climbing, nearly hitting 4% from January to February.

February cpi cools

Posted on by peter.c.rupert

The BLS announced that the CPI rose 2.62% on an annualized basis, the lowest reading since August, 2024. Year over year inflation came in at 2.81%. Our preferred trend measure of inflation was 3.62%. The report offers some good news given the CPI spike in January. The biggest decline came from energy commodities (gasoline and fuel oil), down 10.1% on an annualized basis, down 3.17% year over year; however, our trend measure rose 8.53% due to outsized increases in January (13.8%) and February (17.9%). Energy prices are extremely volatile as can be seen in the magnitude of the scale in the energy graph.

Given the volatility mentioned above, policy makers often remove food (including the price of eggs) and energy from the index, namely, core CPI. The monthly core number fell from 5.49% to 2.75% on an annualized basis, and from 3.29% to 3.14% year over year. Our trend measure fell from 5.85% to 3.49%.

While there is a small sigh of relief given January’s spike in inflation, the core numbers are still solidly above the Fed’s 2% target. Moreover, these numbers from February do not reflect the recent tariff measures put in place and may take many months before we see any price effects. Looking at future inflation expectations, however, reveals a marked increase in prices. The breakeven inflation rate represents a measure of expected inflation derived from 5-Year Treasury Constant Maturity Securities and 5-Year Treasury Inflation-Indexed Constant Maturity Securities. The latest value implies what market participants expect inflation to be in the next 5 years, on average.

Meeting next week, the Fed will almost surely stay the course with no change in rates as they wait to see how current policies play out over the next few months.

CPI inflation spikes

Posted on by peter.c.rupert

By paul gomme and peter rupert

The Bureau of Labor Statistics (BLS) announced that the Consumer Price Index (CPI) for all items rose 0.5% over the month or 5.75% on an annualized basis. This is the largest increase since August of 2023. The year-over-year increase was 3.00%. Our preferred trend measure rose 4.12% on an annualized basis. As the graph below shows, all of the measures have been inching up over the past few months.

Removing food and energy from the index, the core measure, increased 5.49%, the highest reading since April of 2023. The year-over-year number increased 3.29% and the trend measure was up 3.85%.

No matter how one slices it, the inflation numbers are not moving in the right direction. The rise in prices was broad-based, the only major category that decreased over the month was apparel. Later this month, the FOMC’s preferred measure of inflation, core PCE, will be released. There’s a high correlation between CPI and PCE inflation, and it seems unlikely that this measure of inflation will near the committee’s 2% target.

Fed Chair Powell began his testimony to the House Financial Services Committee this morning and will likely have a tough time given the broad based spike in prices. Needless to say, this does not bode well for an easing of interest rates in the near term.

November PCE Inflation

Posted on by Paul Gomme

Mostly bad news on the inflation front: The Fed’s favorite measure of inflation, core PCE inflation, ticked up from 2.79% in October to 2.82% in November, measured on a year-over-year basis. The good news, such as it is, is that the one-month inflation rate rose at an annual rate of 1.39%, down from 3.19% in October. Of course, regular readers know that these month-to-month inflation rates are volatile. Looking over the past 12 months, this is only the second time that the monthly inflation rate has been below the Fed’s 2% target; in fairness, there were a couple of months when inflation exceeded target by less than 0.1 percentage points. Our trend measure of inflation fell from 2.77% in October to 2.31% in November.

Year-over-year PCE inflation also rose, from 2.31% in October to 2.44% in November while the annualized monthly inflation rate dropped from 2.78 to 1.55%. Our trend measure fell from 2.20% to 1.98%.

In our earlier post on November CPI inflation, we made the case for the FOMC to leave the Fed funds rate unchanged. Not surprisingly, the committee didn’t listen to us, lowering the Fed funds rate by 25 basis points instead. The real side of the economy continues to show strength: Earlier this week, third quarter GDP growth was revised up, from 2.8% to 3.1%; and the labor market shows few signs of weakness. Indeed, Cleveland Fed President Hammack dissented, remarking

Economic growth has been strong, and the labor market is healthy. Broad measures of financial conditions have eased, and business sentiment remains robust. Monetary policy has played an important role in bringing PCE inflation down considerably from its peak of 7.2 percent in the summer of 2022. Despite these positive developments, inflation remains elevated, and recent progress in returning inflation to 2 percent has been uneven.

When we worked within the Federal Reserve System, we knew that holding the line on inflation was job one. Thus far, the FOMC has done a bang-up job of reducing inflation without causing much, if any, of a slowdown. Finishing the job will probably require somewhat tighter monetary policy. This was evident in the recent statement and projections showing the likelihood of fewer cuts over the coming year. So, it seems the FOMC realizes that inflation is not where they wish it to be and they certainly cannot deny that the real side continues to show strength. In terms of future policy, a pause in lowering rates is the right course of action at this time.