July Consumer Prices and Inflation-Adjusted Wages

KEY DATA: CPI: +0.2%; Over-Year: +2.9%; Less Food and Energy: +0.2%; Over-Year: 2.4%/ Real Hourly Wages (Over-Year): -0.2%; Real Weekly Earnings (Over-Year): +0.1%

IN A NUTSHELL: “Consumer inflation is accelerating faster than wages, limiting household spending power.”

WHAT IT MEANS: With trade issues swirling, Turkey’s currency collapsing and uncertainty about the state of the world economy rising, it would be nice to see some comforting U.S. economic numbers. I am not sure we got that today. The Consumer Price Index rose moderately in July, but it wasn’t the monthly change that really made people take notice, it was the year-over-year gain that is of concern. The rise from July 2017 was the largest since July 2011, right after the surge in energy costs. Energy has rebounded recently as well, but not nearly as much as it did earlier in the decade. Excluding food and energy, the so-called core index, prices were up the fastest in a decade. So, it is hard to say that inflation is now tame.

As usual, the details of the report contained some oddities. Energy prices fell, but oil costs jumped. Gasoline price declines kept the gains down. Transportation prices jumped and shelter costs continue to rise sharply. The surge in home prices is leading the way. In addition, vehicle prices, which had been restraining consumer costs, are now driving them up. On the other hand, there was a large decline in drug costs. Really? I wonder what kind of medicinal drugs they are smoking in Washington (hehe). It looks like restaurants are pushing up prices more slowly than they had been.

With inflation approaching the magic 3% (not that it means a whole lot), consumers are becoming pressured to continue buying more goods. Real (inflation-adjusted) wages went nowhere in July and over-the-year, they were down. That is, household purchasing power is declining. Even when you add in rising hours worked, income was up minimally since July 2017.  

MARKETS AND FED POLICY IMPLICATIONS: The economy boomed in the spring, fed by rising after-tax income for both businesses and households. And that sugar high should continue for a while. But stronger demand is causing consumer prices to rise faster. While the Consumer Price Index is not the best measure of inflation (the Fed prefers the PCE, the Personal Consumption Expenditure deflator), it is one way of looking at costs. What is worrisome is that the potential inflationary impacts from the tariffs have not had a chance to move through the system. The combination of strong consumer demand, tight labor markets and tariff-induced cost increases points to even higher inflation over the second half of the year. The next reading of the PCE comes out on August 30th. If that index shows faster inflation as well, which I expect, it could lock in not just a rate hike in September but also one in December. As for investors, inflation is just one concern they are trying to deal with. Turkey’s currency implosion and its potential impact on European banks is another. And there continues to be a slow but steady ramping up of the trade skirmishes, especially with China. So the best thing to say is that uncertainty is likely to reign for quite some time and that means we are in for some bumpy days ahead.