• October U.S. inflation rises 0.4% on a monthly basis and 7.7% compared to one year ago. Analysts were expecting the headline print to clock in at 0.6% m-o-m and 8.0% y-o-y
• Core CPI advances 0.3% on a seasonally adjusted basis, bringing the annual rate to 6.3%, two-tenths of a percent below expectations
• Weakening inflationary pressures may prompt the Fed to slow the pace of interest rate increases
   

Market Reaction

Immediately after the October CPI results crossed the wires, the U.S. dollar, as measured by the DXY index, took a sharp turn to the downside, falling more than 1.4% on the back of a steep pullback in U.S. Treasury yields. Weakening inflationary pressures could lead the Fed to adopt a less hawkish stance and slow the pace of interest rate increases as soon as its next meeting to avoid excessive tightening at a time when recession risks remain elevated. This means we could see a 50 bp hike in December instead of a 75 bp adjustment.
 

US Dollar And Treasury Yields Chart

(Click on image to enlarge)

Source: TradingView

U.S. inflation remained high last month but showed tentative signs of moderation, according to a report released this morning by the Bureau of Labor Statistics, a sign that the Federal Reserve is making some progress in the fight to restore price stability after launching the most aggressive tightening campaign since the 1980s.

The latest batch of data published this morning showed the consumer price index, which measures what Americans pay for a representative basket of goods and services, climbed 0.4% on a seasonally adjusted basis, bringing the annual rate down to 7.7% from 8.2% in September. Economists surveyed by Bloomberg had expected the headline print to clock in at 0.6% month-over-month and 8.0% year-over-year.
 

October Inflation Data

Source: DailyFX Economic Calendar

Looking at the monthly breakdown, gains in the all-items index were driven by a jump in energy, food, and shelter prices. These spending categories rose by 1.8%, 0.6%, 0.7%, and 0.8%, respectively. However, these increases were partially offset by declines in used vehicles and medical care costs, which fell 2.4% and 0.6%, correspondingly, during the period in question.

Excluding food and energy, the so-called core CPI, which strips volatile components from the calculation and is thought to reflect longer-term trends in the economy, advanced 0.4% month-on-month due to strong rental inflation. Compared to a year ago, this indicator cooled to 6.3% from 6.5%, two-tenths of a percent below estimates, suggesting that underlying price pressures are starting to cool more rapidly than initially envisioned.
 

Headline Inflation Vs Core CPI Chart

Source: U.S. Bureau of Labor Statistics
 

Implications For Fed Policy And The US Dollar

By mandate, the Fed must return inflation to its 2% target, but the headline rate is four times above that level. However, the subtleties of today's report confirm that price pressures are showing some tentative signs of moderation, an encouraging development that may give the Fed cover to reduce the pace of interest rate increases to assess the effects of cumulative tightening on the economy, in line with recent guidance. This means that policymakers could downshift to a half a percentage point hike at their December gathering after raising borrowing costs by 75 bp at their last four meetings. Against this backdrop, expectations for the FOMC terminal rate may stop drifting higher, putting a soft ceiling on U.S. Treasury yields. This could create the right conditions for the dollar to soften in the near term.

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