September 12, 2023
(The monthly Consumer Price Index (CPI) is scheduled for release by the Bureau of Labor Statistics on Wednesday, September 13 at 8:30 AM Eastern Time.)
We’ve gotten surprisingly good news on both the core and overall inflation numbers for the last three months. The core CPI has risen by just 0.2 percent in both June and July, after rising by 0.4 percent in the prior three months. This has brought the rate of inflation over the last year down to 4.7 percent.
The recent news in the overall index has been even better, with the CPI coming in at 0.2 percent in June and July, following a 0.1 percent increase in May. The overall CPI is now up 3.2 percent over the last year.
The Good News Could be Reversed, Temporarily
There are several areas where we had been seeing unusually large price declines, which will not continue and may be reversed, at least for a period of time. The most obvious one is gas prices.
Gas prices rose just 0.2 percent in July after falling sharply in prior months. They are down 19.9 percent over the last year, reversing the sharp run-up since the invasion of Ukraine. However, prices are again on an upward path, due to cutbacks in OPEC production. We will likely see an increase in gas prices of around 5.0 percent in August, which will add roughly 0.15 percentage points to CPI inflation for the month.
Similarly, air transportation has been a big factor in lowering inflation in recent months. Its index fell 3.0 percent in May and then 8.1 percent in both June and July. It is now down by 18.6 percent year over year. This was largely the result of falling jet fuel prices. With jet fuel prices rising in August, we are likely to see a substantial rise in the index for air transportation.
The third major area where we have been seeing good news that likely will not continue is with health care insurance. The index for this component, which only measures the profits and administrative costs of insurers, not premiums, fell by 4.1 percent in July. It is down by 29.5 percent over the last year and by 17.8 percent from its pre-pandemic level.
Clearly, this decline will not continue and will likely be at least partially reversed in the months ahead. We may start to see this reversal in August. The health insurance index accounts for just under 0.6 percent of the overall CPI and 0.75 percent of the core index.
While health insurance has been pulling the CPI down in recent months, vehicle insurance has been pushing it higher. The vehicle insurance index rose by 2.0 percent in July, continuing a pattern of rapid increases. It has risen by 17.8 percent over the last year. The July increase added 0.05 percentage points to the overall CPI for the month and more than 0.6 pp to the core index. The vehicle insurance component has added almost 0.6 pp to the core inflation rate over the last year.
Higher auto insurance prices do reflect real developments in the economy. One part of this is transitory. We had sharp increases in auto parts and repairs due to pandemic-created supply chain problems. The other part is that we are seeing more actual damage, in the form of more accidents, more climate-related losses, and more stolen cars. Since the CPI auto insurance component measures premiums paid, rather than a net measure that deducts payouts by insurers, higher payouts will translate into more inflation in the vehicle insurance index. Still, we are likely to see a slower pace of increase in future months.
Slowing Rental Inflation
The surest bet about future inflation is that rental inflation will be slowing. This is known because private indexes that measure the rent of marketed units that change hands, show much lower inflation. And, these indexes lead the CPI by six months to a year.
Rental inflation in all the private indexes has slowed sharply, falling to a pace that is below the pre-pandemic pace on a YOY basis, and some actually show year-over-year price declines. The monthly inflation in both the rent proper index and owners’ equivalent rent (OER) index has slowed sharply. Inflation in both indexes peaked at 0.8 percent in December of 2022. It was down to 0.4 percent in the rent proper index in July and 0.5 percent in the OER index.
These indexes may slow slightly more in August. This is a huge deal for the CPI inflation, since the combined indexes account for more than 31 percent of the overall index and almost 40 percent of the core index.
Core Goods Price
With most supply chains returning to their pre-pandemic state we should see a further reversal of pandemic run-ups. This will be most important with new and used vehicles, both of which still have a long way to fall. Together they account for more than 7.0 percent of the overall index and almost 9.0 percent of the core index. The general direction for these indexes is downward, but any single month can be a surprise.
Most of the sharpest run-ups in food prices have been reversed this year. Store-bought food prices are now up by 23.5 percent from their pre-pandemic level, not much more than the 18.5 percent increase in the average hourly wage over this period.
There should still be some room for food prices to fall further. The price for raw commodities has fallen close to the pre-pandemic level in many cases, even as retail prices remain elevated. For example, the CPI beef index is 23.9 percent above its pre-pandemic level, even though wholesale beef prices are up by just 10.0 percent. There is a similar story with bread and wheat and many other food items. Higher labor costs explain some of this gap, but part is clearly due to higher profit margins that can be compressed.
Overall Picture: August May Interrupt Trend of Slowing Inflation
There seems little reason to doubt that the trend is for inflation to slow further, with inflation in rent, vehicles, and other good prices slowing sharply. However, we may see some surprises create a less pleasant inflation picture in August.