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Economic Watch: Inflation Makes a Return, Leading Indicators Down Again

February 19, 2016

By Evan Lockridge

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Consumer prices are heading higher, according to new U.S. Labor Department numbers, increasing speculation that the Federal Reserve will raise interest rates again.

While retail prices – or what the government calls the Consumer Price Index – were unchanged in January from the month before, over the past 12 months this index has increased 1.4%. That follows a 0.7% 12-month increase in December. This compares to a rate of near zero a year ago and is the fastest pace of growth for the CPI since October 2014.

So called core prices, which exclude volatile energy and food costs, were broad-based, increasing 0.3% last month from December. That's the strongest month-over-month increase since August 2011, and is up 2.2% over the past year.

The Fed has repeatedly said that an annual inflation rate target of 2% is one of the main criteria that it will look at in determining interest rate increases, but it has been below this level for around four years. The Federal Reserve raised interest rates for the first time in years in December.

“Despite a volatile start to the year, coupled with a larger-than-expected gain on the producer side reported Tuesday, inflation pressures appear to be gaining ground, albeit still well below the Fed's 2% objective,” said Lindsey Piegza, chief economist at Stifel Fixed Income.

“The hawks at the Fed appeared to be sitting on the sideline at the January meeting, conceding to their dovish colleagues who saw increased ‘downside risks.' At this point, however, with volatility subsiding, a still-moderate economy, which is the new accepted bar of expectations, and rising inflation pressures, the hawks are likely to bolster their argument for a second rate increase near-term.”

According to RBC Economics, January CPI confirmed expectations of a further increase in the headline inflation rate. Year-over-year, the CPI has risen steadily from 0% in September 2015 to 1.4% in January 2016.

“Our forecast assumes that headline CPI will remain close to its January rate for much of 2016 before picking up toward to the Fed’s 2% objective near the end of the year," said Josh Nye, Economist, RBC Economics. Core inflation, which gradually increased during 2015, is expected to remain at or slightly above 2% this year.

"The gradual increase in core inflation, even in the face of downward pressure from a strong U.S. dollar and energy price pass-through, will likely boost the Fed’s confidence that inflation will pick up toward its 2.0% objective in the medium term," Nye sais. "While we expect a cautious approach from the Fed will result in no rate change in March, our forecast assumes a gradual tightening cycle will resume in the second quarter of 2016."

Leading Indicators Decline For Second Straight Month

The report follows one released Thursday by the private research group The Conference Board, used as a barometer of expected economic conditions in the next three to six months. It Leading Economic Index fell for the second straight month, but there appears to be little reason for worry.

The LEI declined 0.2% in January to 123.2, following a 0.3% decrease in December and a 0.5% increase in November.

“The U.S. LEI fell slightly in January, driven primarily by large declines in stock prices and further weakness in initial claims for unemployment insurance,” said Ataman Ozyildirim, director of business cycles and growth research at The Conference Board. “Despite back-to-back monthly declines, the index doesn’t signal a significant increase in the risk of recession, and its six-month growth rate remains consistent with a modest economic expansion through early 2016.”

The Conference Board’s Coincident Economic Index for the U.S., a measure of current economic activity, increased 0.3% in January to 113.2, following a 0.1% increase in December, and no change in November. The Lagging Economic Index, which measures U.S. economic activity of previous months, increased 0.1% in January to 120.0 following a 0.2% increase in December, and a 0.4% increase in November.

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