The January 2024 Consumer Price Index (CPI) report released on February 13 showed that the significant economic recalibration in the U.S. following the pandemic hasn’t yet run its course.¹ Following a peak inflation rate of 9.1% in the latter half of 2022, the subsequent decline in both headline and core inflation has been a source of hope for economists and market participants alike. After the most aggressive rate-hiking regime in modern times, which tanked stocks and bonds in 2022, encouraging reductions in prices from essentials like gas and food to core items like used cars and trucks made markets hopeful that the Fed was done hiking rates and was even ready to cut rates several times in 2024. The current report does not support the narrative that inflation will moderate on its own to the Fed’s 2% target, however.

The CPI for All Urban Consumers (CPI-U) marked a 0.3% increase in January on a seasonally adjusted basis – a slight acceleration from the 0.2% rise observed in December. The incremental rise is unwelcome news for policymakers and markets, as it indicates the Fed may have to keep money more expensive for longer. Notably, the shelter index surged by 0.6% in January, significantly contributing to over two-thirds of the month's total increase in all items.

The food index saw a 0.4% increase in January. Breaking this down, the food at home index rose by 0.4%, and the index for food away from home increased by 0.5%. The costs of food at grocery stores have been a particular problem for consumer budgets, which have not moderated to the same extent as other consumer goods. On a more positive note, the energy index experienced a decrease of 0.9% during the month, largely attributed to a reduction in the gasoline index, providing a counterbalance to the increases seen in other sectors.

Additionally, the index for all items less food and energy, often referred to as the core CPI, experienced a 0.4% rise in January. Looking at the year-over-year data, the all-items index increased by 3.1% for the 12 months ending in January – a slight deceleration from the 3.4% increase seen for the year ending in December. Market participants had been optimistic about a continued gradual decrease in inflation, aiming for a headline rate below 3%. However, the core CPI accelerated 3.9% year-over-year, exceeding expectations that had anticipated a 3.7% annual increase.

Inflation persists for consumers

The continued aftershocks of the pandemic continue to shape the inflation landscape, particularly in the housing sector. Part of the issue for the Fed and economists is the way housing costs are measured, which creates a lag between actual increases or decreases in housing paid by renters and owners and when those price changes appear in the official inflation print. Sarah Stillpass, Global Investment Strategist for J.P. Morgan’s Global Investment Strategy team, noted that, “While eyes were particularly focused on the spike in rents, we believe this to be a one-off occurrence as leading indicators for rent continue to show deceleration.”

Stubbornly high food cost inflation, especially for at-home consumption, also continues to challenge policymakers. Despite declines in other areas, food inflation remains significantly above the Fed's 2% target, illustrating the complexities of pandemic-related inflationary pressures. The unsnarling of supply chains that have brought prices down in other areas have not had as great an effect on food prices, which continue to be high due to a mix of factors beyond policymakers’ control, including droughts and the ability of grocery stores to increase prices without significantly reducing demand.²

Market reaction

Market reactions to the January inflation report and subsequent Fed member remarks were indicative of a shift in expectations. Stock markets in the U.S. opened significantly down and rates on 10-year Treasury bonds spiked. Bond traders had signaled hope for up to seven rate cuts in 2024, as seen by the CME FedWatch tool at the end of 2023.³ That expectation has been tempered over the last two months. With a neutral inflation print in January and cautious optimism from the Fed regarding economic strength, expectations for rate cuts have been adjusted to be between three and five in 2024, contingent on core inflation trends. Currently, the likelihood of a March rate cut is only 6%. Stillpass holds that, “The January CPI numbers decrease the likeliness of a Fed rate cut at its next two meetings. Our base case for a June cut, however, remains and the market is now also pricing for that move.”

The bottom line

The persistent inflation in housing, services and food underscores the ongoing challenges facing the economy in achieving the Federal Reserve's inflation targets. As a result, the Federal Reserve's monetary policy path appears to be one of caution, with future adjustments heavily dependent on a lagged drop in housing costs over the course of this year. While the peak inflationary pressures of 2022 have subsided, the journey towards economic stabilization and price stability remains complex and contingent on careful policy navigation.