Inflation was non-existent in January, as the CPI was unchanged for the month. Meanwhile, core inflation, which excludes more volatile food and energy prices, rose by 0.3%, exceeding expectations. The one-year change in CPI dipped to 1.6%, continuing the downward trend that was in place over the past year.
Overall, inflationary pressures remain well in check, although the recent surge in energy costs could signal that the disinflationary trend of the past year could be getting long in the tooth. Resurgent demand from China and other emerging economies that are experiencing a modest reacceleration in growth could be a catalyst for inflation to pick up moderately. Nonetheless, with economic conditions in the U.S., Europe, and Japan still relatively weak and low expectations for global growth in the next year, inflationary pressures appear unlikely to become problematic in the near-term.
Although actual inflation has been gradually trending lower, there are indications that inflation expectations have been rising. At some point, higher inflation expectations – even in the absence of a meaningful increase in reported inflation – could become problematic for the Fed and its accommodative stance, forcing them to take steps to alleviate those fears.
Recent minutes released from the FOMC suggest some disagreement within the Committee on the appropriate path for monetary policy. The unintended consequences of the Fed’s bond purchase program are a clear concern for committee members, although to varying degrees. The next challenge for central bankers will be in deftly balancing the risk of prematurely winding down its bond purchase programs with continuing too long and igniting unwanted inflation. It appears that opinions are mixed within the Fed’s inner circle on how imminent and significant those risks may be. Given their recent history, the Fed will likely attempt to guide forward-looking expectations in advance of any actual move. As a result, market participants will be listening closely to what the Fed says and reacting accordingly – likely before the Fed actually takes action.
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