Core services inflation is the biggie, and it’s going the wrong way. The Fed is already talking down the pace of rate cuts.
By Wolf Richter for WOLF STREET.
Inflation has been in services and is still in services, it has become sticky in services, and recently it has been re-accelerating in services. Services dominate consumer spending. And durable goods prices rose for the second month in a row, after big drops. But gasoline prices continued to plunge, and food prices ticked up just a little, according to the PCE price index by the Bureau of Economic Analysis today. This is the data the Fed prioritizes as yardstick for its 2% inflation target.
Three of the four major metrics accelerated in October even on a year-over-year basis: the overall PCE price index to +2.3% (blue), the “Core” PCE price index to +2.8%, (red), and the “Core Services” PCE price index to +3.9% (gold), while the durable goods PCE Price index started rising from the ashes and became less negative (green).
The Fed has already been talking down the pace of future rate cuts recently, including in the meeting minutes yesterday and in speeches by Fed governors.
The driver: “Core Services.” The PCE price index for “core Services” accelerated to +4.4% annualized in October from September (+0.36% not annualized), the sharpest increase since March (blue in the chart below). The three-month core services index accelerated to 3.8% annualized (red).
Core services include housing, healthcare, financial services & insurance, transportation services, non-energy utilities, communication services, recreation services, food services & accommodation, and “other” services. But it excludes energy services, such as electricity to the home.
Year-over-year, core services PCE price index accelerated to 3.9%, the fastest increase since May. There has essentially been no progress since May:
The “core” PCE price index accelerated to +3.3% annualized in October from September (+0.27% not annualized), the biggest month-to-month increase since March.
This month-to-month acceleration was driven by the jump in the core services PCE price index (see above).
The “core” index attempts to show underlying inflation by excluding the components of food and energy as they can jump and drop with commodity prices.
The 3-month core PCE price index accelerated to +2.80% annualized, the third acceleration in a row, and the fastest increase since April (red).
The 6-month core PCE price index accelerated to +2.34% annualized (red), and has remained higher all year than it had been at the end of last year:
The durable goods PCE price index increased by 0.7% annualized (+0.06% not annualized) in October from September, on top of the big jump in August, which had been the biggest increase in two years, after a series of steep negative readings (deflation).
In October, the month-to-month increase was due to motor vehicles, while prices fell for household furnishings & appliances, recreational goods & vehicles, and “other” durable goods.
As a result, the 6-month index became less negative (-1.8%, red line).
And the year-over-year index also became less negative, see green line in first chart at the top (-1.6%).
In recent decades, durable goods prices trended lower on average due to manufacturing efficiencies, technological improvements, and offshoring production to cheap countries (globalization). Over these decades, the driving force in inflation has been services. During the pandemic, durable goods prices spiked due to the sudden demand fueled by massive economic stimulus that made consumers suddenly willing to pay whatever for goods, and there was huge demand for goods, overwhelming supply chains, giving companies enormous pricing power, and they used that pricing power:
The overall PCE price index, which includes the food and energy components, rose by 2.3% year-over-year in October, an acceleration from September (+2.1%), despite the plunge in gasoline and other energy prices of -12.4% year-over-year and -1.0% month-to-month (not annualized).
Food and energy prices make up the difference between the overall PCE price index (blue) and the core PCE Price index (red). The price spikes of food and energy in 2021-2022 caused the overall PCE Price index to shoot to +7%, while the core PCE price index, which tracks the underlying inflation beyond commodities prices, topped out at 5.5%.
As energy prices have been plunging starting in mid-2022, the overall PCE price index decelerated faster than the core PCE Price index, leaving the core PCE price index with a higher rate.
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What are your thoughts on Scott Bessent?
With sticky service inflation and the new administration’s tax on global durable goods, food and energy we may see some eye popping numbers down the road.
So, what can bring the inflation from services down? I will say a massive unemployment, which forces customers to spend less. When customer spending goes down, the demand (on discretionary) also goes down.
When there is less discretionary demand, business owners need to bring down the cost to attract customers.
I don’t have any background knowledge in Economics, so feel free to correct me.
“So, what can bring the inflation from services down? I will say a massive unemployment, which forces customers to spend less. ”
In the past, that has worked. But “massive unemployment” is also exactly what the Fed was trying to avoid.
I came out of grad school in 1981 during the “double-dip” recession when the unemployment rate was 8% and heading to over 10%, as Volcker crushed inflation with double-digit interest rates. And the unemployment rate stayed above 7% for 5 years. It ruined that part of my life. I don’t wish that on anyone.
Today, for many young people who are just starting out, “massive unemployment” is the worst thing that can happen to them – for years to come. In my experience, the Fed was right to not forget its second mandate and back off before triggering this “massive unemployment.” Inflation won’t go away, it’s be moderate rather than low, but at least young people will have a chance to start building their careers.
Wolf, I def understand and see your point.
Today current economic environment is unique after covid, and before ultra low Interest rates for 10-15 years
Today current economic environment is unique after covid, and before ultra low Interest rates for 10-15 years, and currently hitorical low unemployment rate. Even the Euro Zone with low to negative gdp growth and high inflation has low unemployment rates .
Is it possible to break out the components of “Core Services” to see where the pressure is coming from or are they all going up together?
Sure and I did that in the past, but each item is so volatile that it breaks your neck.
If you want to see the details of services inflation, I cover that in the CPI articles. That’s our actual and main inflation index. We only look at PCE because the Fed uses it. The PCE index is broader and covers some non-consumer items. But the data is similar.
Here is CPI for October:
https://wolfstreet.com/2024/11/13/beneath-the-skin-of-cpi-inflation-overall-cpi-accelerated-for-4th-month-core-cpi-for-3rd-month-on-re-spiking-used-vehicle-prices-rising-homeowner-costs/
Today in the PCE, the month-to-month drivers were the acceleration in housing (+0.37%), non-energy utilities (+0.49%), transportation services (+0.62%), food services (+0.34%), and financial services (+0.89%).
If the Fed does its job, we should start to see an amelioration in services inflation within the next 3-5 business quarters, as there is a correlation between core durable goods inflation and services inflation.
LOL, we got a new correlation fantasy theory here? But there is near-zero correlation between durable goods and core services. Durables goods have largely been in DEFLATION over the past 40 years, while core services have powered inflation.
Just a bit of Noise or the start of an upwards trend? That’s the interesting question. Obviously if Trump sticks to his guns AND the inflation genie hasn’t been forced back into the bottle things may get unpleasant.
Happy Turkey Day Wolf and thanks to you for keeping us accurately informed of what’s REALLY happening in our economy.
Special thanks to all the commenters here as well. It’s as much fun to read the often intelligent and sometimes crazy, off the wall comments, as it is to read the articles!!!
Agree, happy Thanksgiving, and safe travell!