June Core CPI Beat Estimates

Jobless Claims Fall Sharply

To me, it appears uncertainty is hurting the economy more than weak demand. We will see how far uncertainty can take us, but I don’t see it leading to a recession. If a recession was about to be caused by the trade war, Trump would quickly make a deal. The Fed is about to cut rates in 20 days because of anticipated weakness rather than current weakness. It wants to keep financial conditions loose since the economy is in a slowdown. The Fed isn’t reacting to the labor market even though keeping employment high is one of its 2 mandates.

As you can see from the chart below, in the week of July 6th initial jobless claims cratered from 222,000 to 209,000 which is a 3 month low. That matched the low end of the estimate range. The 4 week moving average fell from 222,500 to 219,250. The bears fail at using inductive reason when they predict a recession based on good results like this. Just because jobless clams have been range bound, doesn’t mean they are about to go higher. I don’t see a new cycle low being hit. The April 2019 low of 193,000 probably will never be matched again because the labor market is getting larger because of population growth.

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Jobless claims imply the July labor report will be strong, but we need to wait 2 weeks for the sample week. Often times a weak monthly BLS report follows a strong report, but I wouldn’t be surprised if another solid report comes out since the June reading wasn’t spectacular. If the ADP report has any relevance, the BLS reading could be weak. Continuing claims in the week of June 29th were up 27,000 and the 4-week average increased slightly to 1.695 million.

This is a little bit delayed, but on Wednesday the Atlanta Fed Nowcast for Q2 GDP growth was revised up from 1.3% to 1.4% because of the BLS labor report. The Fed appears to be following the overall economy and the global economy more than the labor report. If that’s the case, the BLS report shouldn’t cause hawkishness as it only increased GDP estimates by one-tenth. As I mentioned, most investors won’t change their theses based on one report.

Core Inflation Beats Estimates

The Fed has a bit of egg on its face because it has suggested it will cut rates in July and the June CPI report showed core CPI was 2.1% which beat estimates for 2% and May’s reading of 2%. Monthly core CPI was 0.3% which beat estimates for 0.2% and May’s reading of 0.1%. This wasn’t exactly a report that screams the economy is overheated, but it’s the strongest core CPI since January 2019.

As you can see from the chart below, headline inflation was below core inflation because of the decline in energy prices. Headline inflation was 0.1% monthly which beat estimates for 0% and matched the May reading. Yearly inflation was 1.6% which met estimates and fell from 1.8% in May. This means weekly real earnings growth improved in June. Because of declining energy prices, the American worker is sitting in the catbird’s seat.

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There is some egg on the Fed’s face in the sense that core inflation rose and is above 2%. However, core PCE will still probably be below 2%, so the Fed won’t be changing its mind on rate cuts. Oxford Economics believes headline PCE inflation in June will be flat at 1.5% and core PCE inflation will be 1.7% which would be a 0.1% increase. That’s still below the Fed’s target. As I mentioned previously, inflation gives the Fed clearance to maintain rates, but the Fed needs to expect it to fall for it to be able to cut them. If core PCE were to head higher in July before the Fed’s cut goes through, cuts could push it above 2%. I’m not saying that will happen, but the risk of higher inflation increased slightly with this CPI report.

Now let’s look at the price growth of various categories in this report. This is all on a non-seasonally adjusted yearly basis. Food price growth fell from 2% to 1.9%. It has been near this level since February. Energy prices were a drag on headline inflation. Energy commodities prices fell 5.4% and energy services prices fell 0.7%. Services are labor intensive which means prices won’t fall as much since the labor market is relatively tight. In the commodities segment, fuel oil and gasoline prices fell 5.6% and 5.4%.

In the core section of the CPI report, there was a similar bifurcation as commodities less food and energy prices were up just 0.2% and services less energy services prices were up 2.8%. This services category drove core CPI above 2%. First less look at commodities. Apparel prices fell 1.3%. Medical care services price growth was the weakest as prices fell 1.5%. New car prices were up 0.6% and used car prices were up 1.2%. In the services section of core CPI, shelter was a big driver of inflation again as its prices were up 3.5%. Primary owners’ equivalent rent inflation increased from 3.34% to 3.41% and rent inflation increased from 3.73% to 3.87%. Medical care services inflation was 2.8% and transportation services inflation was just 0.9%. Dental services prices were up 1.94% which beat the 1.15% inflation in May.

Conclusion

The jobless claims decline provides further evidence that the labor market is in fine shape despite the Fed’s decision to cut rates in July. There is no sign of a recession here. We need to see more weakness for there to be a recession. The CPI report showed core inflation increased to above the Fed’s target. However, the Fed looks at core PCE which is lower, so core CPI isn’t a bother. Shelter inflation was high even though home price growth has slowed sharply. Rent inflation isn’t directly correlated with home price growth, but you wouldn’t expect owners’ equivalent inflation to rise while home price growth falls. We don’t have data on housing prices from June, but I suspect home price growth will fall further.