August Consumer Prices, Real Earnings and Small Business Optimism

KEY DATA:  CPI: +0.3%; Over-Year: +5.3%; Ex-Food and Energy: +0.1%; Over-Year: +4%/ Real Hourly Wages: +0.4%; Over-Year: -0.9%/ NFIB Optimism: +0.4 point

IN A NUTSHELL: “The inflation rate is moderating, but it is still quite high.”

WHAT IT MEANS:  The Fed Chair has been saying, inflation is coming down, and at least in August it did, at least a little.  The Consumer Price Index rose less than expected, helped along by declines in the costs of used vehicles, medical commodities, and transportation services, which was largely airline fares.  But energy was up sharply, food expenses rose solidly, and new vehicle prices continued to spike.  Still, this was a fairly restrained report.  Key segments, such as shelter and medical services increased at reasonable rates. In addition, the details of the components are starting show some signs of coming off their highs.  While in the past few months, there were very few negative signs in the detailed tables, the number in August rose significantly.  That seems to lead credence to the arguments that inflation will subside.  The questions of at what rate inflation will stabilize and how long it will take to settle down to a more normal level, are still a long way from being answered.

The more moderate rise in inflation helped workers, especially since the tight labor markets are driving up wages sharply.  Hourly earnings soared and even adjusting for inflation, real wages increased solidly.  Unfortunately, they are still down compared to last year.  That is true even if hours worked are added. All that extra money is going to pay for the higher cost of goods, and then some.

According to the National Federation of Independent Business, small businesses remain cautious about the economy and are getting more worried about the future.  It’s Optimism Index edged up in August.  But the percent of respondents expecting business conditions to improve over the next six months dropped sharply for the second consecutive month. The Outlook index hasn’t been this low since January 2013.  Firms are concerned about labor, commodity costs and sales.  They are still trying to hire, but like firms of all sizes, it is a struggle.    

IMPLICATIONS:One month of more moderate inflation pressures is nice to see, but it doesn’t create a trend. We need a few more months of reasonable numbers before we can become comfortable that the declaration in inflation is at hand. The micro-details of the report seem to imply some easing in pressure, but again, we need to wait and see, as there is no letup in the cost of labor and other inputs.  Firms operating expenses are on the rise, and they don’t have the means to address the large increases without raising prices. So, it is hard to argue that inflation will diminish rapidly.  At the same time, the Delta variant continues to punish large parts of the nation and given the battles over vaccines and masks, the likelihood is that it will be with us for quite a while.  And there is no certainty another variant doesn’t appear that creates more issues. If investors are uncertain, they have every good reason to feel that way and we know that uncertainty is rarely good for the markets.  Add to that a FOMC meeting next week where it is unclear what will be said about tapering, and you have the recipe for some real volatility.  The rest of this week is filled with some more important numbers, such as industrial production, import prices, retail sales, and an early reading on September Consumer Sentiment.  It could be a very bumpy week in the markets.