Higher US inflation in January has not deterred markets from anticipating Fed rate cuts from the middle of the year. In fact, Treasury yields ended the week lower, driven by the front end (2yr -16bps), enabling equities to remain buoyed up. The US dollar remained firm through the week.
The Fed's preferred inflation gauge rose 0.4% month-on-month, its fastest rise since early 2023, validating the uptick in January's consumer and producer price readings. The annual rate was softer at 2.8% from 2.9% previously. The monthly print was a clear acceleration from the back half of 2023 where the gauge's average increase was 0.2%, a run rate consistent with the Fed's 2% inflation target. However, this appears to be a case of disinflation delayed rather than derailed. In the past two years, core PCE deflator rose by 0.5% in January, putting the 2024 outcome in context. Signs in the report that US consumer demand may be starting to wane also points to a favourable backdrop for disinflation to continue. Personal consumption growth slowed from 5.9% to 4.5%yr (low to Feb-21), while in real terms the pace stepped down to a subdued 2.1%yr from 3.2% in December. On the surface, income growth was strong, up 1%m/m to 4.8%yr; however, that was boosted by temporary factors such as dividend and transfer payments.
February's preliminary estimates reported further declines in euro area inflation, headline easing from 2.8% to 2.6%yr and core in from 3.3% to 3.1%yr. The ECB is likely to remain cautious at next week's policy meeting, continuing to highlight its focus on services inflation and wage developments; however, the Governing Council may lay more of the groundwork to begin cutting rates from the middle of the year. The ECB will publish a new set of economic forecasts next week, which could pave the way for any tweaks in messaging. On current projections, inflation is expected back at the target in the second half next year, but with growth weak and inflation continuing to decline, this timeline could potentially shift forward.
Australia's headline inflation rate remained at 3.4% in January, printing marginally below the 3.5% consensus forecast (reviewed here). After slowing sharply into the end of last year, inflation looks set to continue declining in the months ahead. Inflation slowed in both 3-month (2.7%) and 6-month (3.0%) annualised terms, suggesting the recent momentum in prices is broadly consistent with inflation coming back to the RBA's 2-3% target band. However, the monthly series can be volatile and an absence of updates on key services prices in January may have prevented markets from pricing earlier RBA rate cuts, currently expected in the back half of the year.
In other key developments, retail sales lifted by 1.1% in January (see here) but underwhelmed expectations (1.5%) in the context of a sizeable post-Black Friday fall in December (-2.1%). This increases attention around household consumption and finances going into next week's National Accounts. Real GDP growth is likely to have been subdued in Q4, putting the RBA's assessment of excess demand in the economy under the spotlight. My full preview of the National Accounts can be accessed here; the key dynamics are subdued household consumption growth amid ongoing headwinds to finances, softer momentum in business investment as capex lifted by 0.8% in Q4 (see here) and mixed detail around construction activity (0.7% in Q4), with strength in infrastructure projects offsetting weakness in the residential segment (see here).
