US consumer prices, after rising surprisingly in January, dropped 0.2% in February, on par with consensus. Core prices, excluding energy and food, increased 0.3%, slightly more than consensus forecast of 0.2%. On a year-on-year basis, inflation decelerated to 1% in February from 1.4% in January, while core inflation accelerated slightly to 2.3% from 2.2% recorded in January.
Declining energy prices explain the slowdown in headline inflation. The category fell 6% m/m and 12.5% y/y, mainly due to low oil prices. Food prices increased 0.2% m/m and 0.2% y/y after remaining steady in January. In February, price growth elsewhere rose. Prices for core services increased 0.3% m/m and 3.1% y/y, whereas prices for core goods increased 0.3% m/m and 0.1% y/y. The rise of 3.9% y/y in medical care expenditures mainly drove the strength in core services. Meanwhile, strong rise in medical care commodities and apparel drove the monthly gain in core goods.
It seems that the bulk of the disinflationary impulse from lower energy prices is fading and inflation will continue to accelerate over the next year. The acceleration in core inflation, a measure of underlying inflationary pressures, shows diminishing slack in labor markets in the US and excess capacity in general. Rising inflationary pressures are in line with signals that show aggregate demand growth is enough to seal the gap with excess supply. This gives justification for the continued gradual rise in policy rates that are likely to restart in June.
In 2016, the US dollar’s strength will continue to suppress core inflation numbers temporarily as the monetary policy of the US continues to diverge from the policies of its peers. Ultimately the drag on the underlying inflation measures from the dollar’s strength will reduce and higher inflation readings will justify the Fed’s tightening cycle.
