Easing US inflation may temper rate rises

Consumer prices in the US rose 7.7 per cent in October – the smallest increase since January – leaving the Fed Reserve on course for a 50 basis point rate rise next month. US stocks rallied.

US equity and crypto markets rallied on the easing inflation report. Picture: Michael Santiago/Getty Images

A bigger than expected drop in US inflation, to 7.7 per cent over the year to October from 8.2 per cent a month earlier, pushed US stock prices sharply higher on Thursday (Friday AEDT) as investors expressed their hope the Federal Reserve would slow down its punishing rate of interest rate increases.

The benchmark S&P500 stock market index closed up 5.5 per cent in New York, following one of the largest one-day increases in years, after the US Labour Department said core inflation, which strips out volatile energy and food prices, rose 0.3 per cent over the month to October, half the pace of September.

Buoyed by Democrats’ better than expected showing in US midterm elections, President Joe Biden, whose popularity has suffered from the highest inflation in 40 years, seized on the figures as evidence his administration’s “economic plan was showing results”.

“The American people can see that we are facing global economic challenges from a position of strength,” he added, a day after stating he would be changing “nothing” policy-wise, despite the likelihood Republicans will soon take a slender majority in the House of Representatives.

After seven months in a row of annual inflation posting ate levels of 8 per cent or above – more than four times the Federal Reserve’s target – as post-Covid-19 supply constraints and government stimulus pushed up prices, investors digested the first strong indication inflation may have peaked and the lowest annual reading since January.

“We expect this to mark the start of a much longer disinflationary trend that we think will convince the Fed to halt its tightening cycle early next year, with the policy rate peaking at 4.5 per cent to 4.75 per cent, and to begin cutting rates again before the end of 2023,” said Paul Ashworth, the chief North American economist for Capital Economics.

The yield on US 10-year bonds, which has more than doubled in the last 12 months, also dropped sharply from 4.15 per cent to 3.85 per cent as investors

While food and energy prices rose 0.6 and 1.8 per cent over the month, respectively, used car prices and airfares fell 2.4 per cent and 1.1 per cent.

The core consumer price index, which strips out volatile food and energy, rose 6.3 per cent over the year to October, down from 6.6 per cent in September, which was the highest reading since August 1982.

Dallas Federal Reserve President Lorie Logan said the new data “were a welcome relief, but there is still a long way to go”. The probability the Federal reserve would curb its ‘0.75 percentage point per meeting’ pace of increases to 0.5 percentage points at its next December meeting shot above 80 per cent, according to market pricing.

“It won’t deter the Fed from continuing to increase interest rates; simply put, the Fed faces a Hobson’s choice: a mild recession to tame inflation or stagflation next year,” said Ryan Sweet, chief US economist for Oxford Economics.

“Some of the deceleration was driven by a methodology change for estimating health insurance prices,” he cautioned.

The Federal Reserve Bank of Cleveland’s ‘inflation nowcasting’ model was predicting an unchanged level of 6.3 per cent core inflation in November, suggesting any decline might be gradual.

Thirty-year home loan rates have hovered above 7 per cent, more than double the level of 12 months ago, one the back of Federal Reserve tightening policy but signs of a dramatic slowdown in the US economy, widely predicted, still remain mixed.

The US unemployment rate rose to 3.7 per cent in October from 3.5 per cent a month earlier, leaving the jobless rate near the lowest levels since the 1960s.