The new measure of inflation, the PCE Price index, just came in at 2.8% in September according to the U.S. Bureau of Economic Analysis. The rate increase was entirely in line with market expectations. This may seem like a substantial jump, considering where prevailing inflation rates and the overall economic climate are headed, it’s warranted. That’s why economists focus on core Consumer Price Index (CPI) numbers. These core inflation figures strip out the volatile costs of food and energy, which makes them key to informing monetary policy deliberations.
It’s left to central banks to keep the core CPI in line, usually under the auspices of an explicit 2% target. When core CPI exceeds this benchmark, it usually leads to increased interest rate hikes. When inflation drops under 2%, rates are typically cut. This link between core CPI and interest rates is essential to economic stability and future growth.
Understanding Core CPI
Core CPI is one of the most closely watched metrics by economists and policymakers to understand inflation. It is a better measure of the underlying inflation trend as it removes the more volatile items in the consumer price index. Central bankers—including our own Federal Reserve—pay remarkable attention to these numbers as they deliberate on their monetary policy actions.
When core CPI is above the Fed’s 2% target, that’s an indicator that the economy may be at risk of overheating. As a counter measure, central banks should, and are likely to, raise interest rates to lower inflationary pressures. If core CPI drops below this line, central banks can afford to cut rates in order to spur greater economic activity. Therefore, keeping core CPI close to this 2% target is important for promoting confidence in a stable economic climate.
Recent Trends in PCE Price Index
In September, the PCE Price Index posted a 2.8% increase from a year prior, in line with analysts’ expectations. This figure follows August’s 2.7% increase, signaling a not so welcome and very real return to inflationary pressures. The change in the Core PCE Price Index was 0.3% this month. This increase was in line with analysts’ expectations and was a repeat of the August number.
It’s a testament to the stability of these figures that inflation continues to be an obsession of both policymakers and investors. Consumers typically see headline inflation represented as a month-to-month and year-to-year percentage change. Today’s PCE data paints a clearer picture of the inflationary pressures that US consumers are having to deal with.
Market Reactions and Implications
Although the PCE Price Index has increased, the U.S. Dollar Index has stabilized. This indicates that investors may have already baked these numbers into their pricing. As of this writing, the U.S. Dollar Index was sitting right around the 99.00 mark, down modestly on the day.
Traders have adopted a wait-and-see stance in the foreign exchange market. Instead, they are mainly laser-focused on the impact of such inflation figures on their ongoing monetary policy deliberations. Central banks, including the U.S. FED, are looking at core CPI! If those levels continue to increase, they could raise interest rates, which would affect future investment strategies.