KEY DATA: CPI: 0.0%; Excluding Food and Energy: +0.2%; Real Hourly Earnings (Year-over-Year): +0.4%/Jobless Claims: 291,000 (down 2000)

IN A NUTSHELL:  “Stable inflation is keeping spending power up as wages continue to go nowhere.”

WHAT IT MEANS:  The Fed’s focus of attention appears to be turning to inflation and labor compensation as the members are indicating that the labor market is tightening.  At least that is what it seems.  It is hard to really know what the policy indicator du jour is at the Fed.  I guess if you keep changing the target, your aim is irrelevant.  Enough of my poking fun at the Fed.  Consumer prices went nowhere in October, which was actually a surprise.  It was expected that the decline in energy costs, which were off sharply, would lead to a fall in the Consumer Price Index.  It didn’t, even though food costs were more restrained than they had been.  There was a sharp drop in meat and poultry prices and that helped since most other components continued on their inexorable rise.  While clothing and used vehicle costs fell, new vehicle and especially services prices rose.  Meanwhile, medical costs, both services and goods, are about as well contained as we have seen them in decades. 

With inflation flat, a small rise in hourly wages allowed inflation-adjusted earnings to increase over the month.  If you want to see why consumption remains muted and so many people think we are still in recession, look at the hourly earnings numbers: They have grown by only 0.4% over the past year.

Will wage gains improve?  Eventually, as the labor market keeps firming.  Jobless claims have settled in the 290,000 a week range, which is consistent with solid to strong payroll increases.

MARKETS AND FED POLICY IMPLICATIONS: The talk is all about deflation, but the data provide little support for that view.  Excluding food and energy, the 1.8% rise over the year is not that far from the Fed’s desired 2% range.  The deceleration that occurred in the late spring and summer has turned around.  Why?  While few were watching, services inflation has rebounded, settling into a 2.5% annual range.  That is above the Fed’s target.  Services, excluding energy, is the key component in the index, making up over 57% of the total and 75% of the core.  If 2.5% is the base for services inflation, the prospects for deflation seem slim.  Meanwhile, commodities less food and energy, has been falling for over a year.  If this component starts rising even slowly, the core will exceed 2%.  My expectation is that core inflation will move above the target level early next year, keeping the Fed on course for raising rates this spring.  As for investors, the headline should be encouraging, though my analysis argues it should be a warning that inflation is not all it is not cracked up to be.