CICC: U.S. inflation data does not support early interest rate cut

The CPI of China and the United States in November was 3.1% year-on-year, and the core CPI was 4.0% year-on-year, both in line with market expectations. From a sub-item perspective, the continued decline in energy prices is an important factor in the fall in inflation, but the resilience of service inflation remains, indicating that the battle against inflation is not over yet. This inflation data supports the Fed's continued pause in raising interest rates, but does not support a rate cut soon. We expect the Fed to remain on hold this Thursday, and the dot plot may maintain its forecast of two interest rate cuts next year, which is more conservative than the market's forecast of five rate cuts. many. Powell may refute the market's aggressive expectations for an interest rate cut, but investors may not fully agree, which means that the market and the Fed may continue to compete until economic data proves or disproves the need to maintain high interest rates.

The U.S. CPI in November increased by 3.1% year-on-year (previous value: 3.2%), and rose 0.1% month-on-month after seasonally adjustment; core CPI increased by 4.0% year-on-year (previous value: 4.1%), and rose 0.3% month-on-month after seasonally adjustment, both basically in line with market expectations.

From a sub-item perspective, the sharp drop in energy prices is an important factor in the fall in inflation. Following a 2.5% month-on-month decrease in October, the energy index fell by 2.3% in November, with the gasoline price index falling by 6.0%, compared with a 5.0% decrease in the previous month. In terms of core inflation, core commodity prices fell by 0.3% month-on-month in November, an increase from the 0.1% decline last month. Among them, the prices of clothing, furniture, home appliances, communications and entertainment fell further due to the intensification of holiday discounts, and the price of used cars rebounded. The price of core services increased by 0.5% month-on-month, an increase from 0.3% last month. Among them, the prices of rent, transportation services, and medical services were firm, indicating that the resilience of service inflation still exists.

This inflation data supports the Fed's continued pause in raising interest rates, but does not support a rate cut soon. Although the year-on-year growth rate of overall inflation has slowed, the month-on-month growth rate of core inflation is still relatively high. The annualized month-on-month growth rate in the past three months has still reached 3.4%, which is higher than the Federal Reserve's 2% inflation target (Chart 1). Among them, inflation in core services, which the Fed is most concerned about, remains high, with an annualized month-on-month growth rate of 5.2% in the past three months (Chart 2). These data indicate that the fight against inflation is not over yet and do not support the Fed's view of cutting interest rates in March next year. We believe that the current market pricing of interest rate cuts is too aggressive and premature, and may be revised later.

This data once again shows that the slowdown in inflation is not a matter of course, but is based on the premise of continued tightening of monetary policy. One view is that U.S. inflation has fallen sharply from its highs, and the Fed can rest easy. We think this idea is overly optimistic. The slowdown in U.S. inflation over the past year has come more from the recovery of supply, such as the repair of supply chains, the increase in labor force participation rates, and the decline in energy prices. It is unclear how much room for repair these factors have and whether they can reduce subsequent inflation. As big as it has been in the past year. If the supply repair efforts weaken, then reducing inflation in the future will need to rely more on slowing demand, which requires the Fed's monetary policy to be sufficiently restrictive and real interest rates to remain high for a period of time.

In the early hours of this Thursday, the Federal Reserve will announce its latest interest rate decision. We expect the Federal Reserve to remain on hold and keep interest rates unchanged. Officials may slightly raise their GDP growth forecasts for the end of 2023, while slightly lowering their headline and core PCE inflation forecasts. What the market is most concerned about is the Federal Reserve's view on the direction of interest rates next year. We expect that the dot plot may continue to imply two interest rate cuts next year, and the median interest rate forecast by the end of next year may be 4.8% (5.1% in September). Although the Federal Reserve also recognizes the possibility of interest rate cuts next year, the number of interest rate cuts may be less than The market is currently expecting far fewer five times.

In addition, Powell may refute the market's aggressive expectations for a rate cut next year and point out that it is not yet mature to discuss a rate cut, which will be seen as a suppression of rate cut expectations. The purpose of this is that the current market has already factored in a lot of optimistic interest rate cut expectations, and the capital market has been "carnivaling" for more than a month. If more dovish signals are continued to be released, it may lead to further easing of financial conditions and aggravate the economy. "No landing" (growth is not weak but inflation is higher) and secondary inflation risks, these are what the Fed does not want to see.

But we don’t think investors may accept Powell’s rebuttal. In the past two years, the market has been too aggressive in predicting interest rate cuts many times. Although it failed in the end, it is always willing to believe that this time is different. This means that the game between the market and the Federal Reserve may continue to exist, and asset prices will continue to revolve around expectations of interest rate cuts until economic data proves or falsifies the need to maintain high interest rates. Kim: U.S. inflation data does not support early interest rate cut