Traders will keep a close eye on the release of the consumer price index this week, a pivotal measure of inflation. Additionally, significant economic indicators are anticipated later in the week, including January's figures on retail sales, production, imports and exports, housing starts, and the producer price index.

Recent monthly reports have indicated cooler readings compared to a year ago, with economists expecting this trend to continue in January. Projections suggest a 0.2% increase in overall prices and a 0.3% rise in core prices from the previous month. While the Fed's preferred inflation gauge from the Commerce Department is anticipated later this month and has typically been lower than the Labor Department's figures, it's likely that inflation last month still exceeded the central bank's 2% target.

Economists generally foresee a cooling of inflation this year, although they warn of potential fluctuations. Supply-chain issues easing have helped temper prices for many goods, while prices for used cars, a significant inflationary factor during the pandemic's onset, have recently declined. Rent prices have also stabilised over the past year, as evidenced by data from private sources and the Labor Department's new tenant rent index.

The Fed has stressed the need for greater confidence in inflation data to initiate its cutting cycle. We believe the Fed is particularly interested in the makeup of disinflation for this confidence. So far, disinflation has been primarily driven by disinflation in goods prices, while disinflation in services has been more resistant.

We anticipate this discrepancy to persist into 2Q this year because inflation in certain service sectors could persist, possibly influencing month-to-month price fluctuations. Slightly higher inflation in the first quarter cannot be ruled out, followed by more disinflation in the services sector in the second half of the year.

Fed officials share the view that inflation is likely contained, a key factor in their plans to reduce rates later this year. Fed Chair Jerome Powell emphasised at a recent press conference that while there have been six months of positive inflation data, they seek further confirmation to ensure a sustainable path towards 2% inflation.

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