CICC: U.S. inflation repeatedly "throws cold water" on interest rate cuts

The U.S. CPI growth rate rebounded to 3.2% year-on-year in February (previous value: 3.1%), and core CPI increased by 3.8% year-on-year (previous value: 3.9%), both exceeding market expectations. The non-rent core inflation (supercore) that the Fed is most concerned about fell from 0.8% to 0.5% month-on-month, indicating that service prices remain strong. If January’s higher-than-expected inflation data can be regarded as a single-month fluctuation, then two consecutive months of “stubborn” inflation are enough to make the Fed’s path to interest rate cuts more tortuous. Looking forward, considering that non-farm employment is stable and residents’ wealth effects are still there, we believe that the Federal Reserve will most likely not cut interest rates at next week’s FOMC meeting, and we do not even rule out seeing more Fed officials lower interest rates throughout the year on the dot plot. Judgment of the number of interest rate cuts. If the U.S. economy remains resilient amid market expectations of a "firm interest rate cut," the Fed's actual interest rate cuts will only become increasingly cautious.

Why did February’s inflation data score twice and continue to exceed expectations? From a sub-item perspective, service inflation remains the main contradiction. If the overall CPI growth rate of 3.2% is broken down year-on-year, core services contributed 3 percentage points, of which rent contributed 2 percentage points and non-rent core services contributed 1 percentage point. First of all, from the perspective of rent, the month-on-month growth rate of main residence rents rebounded from 0.4% to 0.5% last month. Although the owner's equivalent rent, which has a certain statistical caliber, has declined month-on-month, it is still only up from the previous month. The monthly reading fell from 0.6% to 0.4%, still at a high level. These two rent sub-items, with a combined weight of more than 34%, have remained resilient and have not cooled down as much as the market had previously predicted. We believe that we need to pay close attention to this. The correlation between CPI rent and private indicators may not be complete. consistent with historical patterns. The U.S. Bureau of Labor Statistics has previously issued a statement stating that the weight of owner equivalent rent (OER) will be adjusted annually based on the structure of the house (such as single-family homes vs. townhouses and apartments). The adjustment starting in January 2024 may make The weight of single-family detached homes has increased by about 5 percentage points in the OER [1]. The tilt towards single-family homes in the OER weight may be one of the factors driving up rent growth in January, but this may not be just a change in statistical caliber - it may reflect the fact that residents are more inclined to rent or buy after the epidemic. Single-family houses isolated from other residents in order to reduce the risk of epidemic transmission and enhance the home office experience and other mid- and long-term structural changes in preferences [2]. Looking forward, the "cooling" path of rent inflation may not be as optimistic as Zillow and other private sector data point to.

Secondly, the non-rent core inflation (supercore) that the Fed is most concerned about only fell from 0.8% to 0.5% month-on-month, and the three-month annualized growth rate rebounded to 6.9%. Looking further, prices include car rental (+3.8%), air tickets (+3.6%), express postal services (+2.2%), moving (+2.0%), sports events (+1.9%), car insurance (+0.9%), etc. The biggest increase. Some of these items are more volatile, such as air ticket prices, but other labor-intensive services may be stickier. In addition, core commodity inflation may also be affected by supply chain disruptions such as Red Sea shipping risks. After continuing to decline month-on-month, the month-on-month growth rate turned positive to 0.1% in February, with second-hand car prices rebounding from -3.4% month-on-month to +0.5%. , clothing prices turned positive from -0.7% to +0.6%. One factor supporting the overall CPI in February also came from the increase in global oil prices and US gasoline prices in February. If the US economy continues to remain strong and resilient, it cannot be ruled out that energy inflation will continue to be supported by the demand side. However, food inflation fell to zero month-on-month growth after seasonally adjustment, which is a good signal for American people's daily experience of visiting supermarkets and buying food.

For the Biden administration’s general election, it is difficult to interpret this inflation data as a victory for successfully suppressing inflation. For the Fed, the inflation data of the past two months are obviously unwelcome, and are particularly troublesome at this point in time. The rebounding inflation lacks sufficient reason to cut interest rates in the short term, and also raises the risk of further interest rate cut guidance. Earnings ratios worsen - meaning the more dovish the Fed talks, the less it can do. Even if the Federal Reserve prefers dovish statements and "protects" growth due to certain non-economic factors such as fiscal debt pressure, the recurrence of inflation has forced it to be more cautious. We believe that the Federal Reserve will most likely not cut interest rates at next Thursday's FOMC meeting, and we do not even rule out the possibility of seeing more Fed officials reduce the number of interest rate cuts throughout the year on the dot plot.

From a general perspective, we still believe that U.S. inflation will slow down this year due to the high base and other factors, but there is great uncertainty in the pace. On the one hand, supply-side uncertainties such as Red Sea shipping still exist. On the other hand, the wealth effect's support for the demand side cannot be ignored. In the past period, the US stock market has continued to hit new highs under the support of the AI technology wave. In addition, housing prices have continued to rise under the influence of low inventory, and the assets held by the household sector have continued to expand. , which also supports consumer confidence and demand. The combination of tight supply and strong demand points to stubborn inflation, which also means that the Fed's monetary policy will be full of variables, and investors should be more cautious about expectations of interest rate cuts. After the release of inflation data, U.S. bond interest rates fluctuated upward, and the market's expectations for interest rate cuts this year, as shown by CME Group data, were also revised from four times last week totaling 100bp to three times totaling 75bp, consistent with the Federal Reserve's forward guidance at the end of last year. As we have repeatedly emphasized before, if the market is overly optimistic and takes into account the dovish guidance of the Federal Reserve, it will easily cause financial conditions to be too loose, and economic and inflation data may become more flexible. Instead, the Federal Reserve will be "strangled" in cutting interest rates, and the risk of interest rate cuts will be reduced. The timing is pushed back and the magnitude is reduced (please refer to "U.S. employment is stable, more reasons are needed for interest rate cuts", "Interest rate cut expectations are "swaying", risk variables still exist", "The logic, variables and risks of the Federal Reserve's interest rate cuts", "Supply risks" Increase, uncertainty about interest rate cuts is rising" and other reports).