Wednesday, February 14, 2018

January 2018 CPI

Non-shelter core CPI does continue to show some recovery.  The noisy month-over-month measure was strong and year-over-year is now up to 0.8%.  Shelter inflation remains at 3.2%.

Maybe the parallel to where we are is the late 1990s, but now a little more extreme.  Core inflation then was about 2%, which really consisted of 1.5% core non-shelter inflation, plus a 1.5% annual increase in the transfer of economic rents to real estate, which was expressed as shelter inflation.  Today, we have 0.8% core non-shelter inflation, plus a 2.5% annual increase in the transfer of economic rents to real estate, which is expressed as shelter inflation.

In both cases, the policy rate is rising, and I suspect will rise too much.  In 1999, the Fed had been hiking rates slowly, and they accelerated the hikes in 2000 when inflation moved higher.  The 2000 recession coincided with a hard equities crash.  I'm not sure we will see that.  But, it might be reasonable to expect a drop in yields and only a slight drop in employment and housing starts.  In fact, housing starts have already leveled off, as they had in 1998 and 1999.

On the other hand, I think capital repression has pushed low tier home prices down, making it difficult to trigger new building.  It appears that credit conditions have loosened ever so slightly, which may be allowing low tier credit to expand.  The initial effect of this may be to raise prices.  Possibly prices will need to rise 10% to 20% before they are high enough fund the development of new lots.  Maybe that means that the initial expansion of credit has more of an inflationary effect than a real effect because of household balance sheet recovery and credit creation.  That may be necessary, but on the other hand, it would probably create a negative Fed reaction.

This still seems like a race between the Fed's policy rate and the neutral rate, and if long rates can continue to stay ahead of short rates, maybe the expansion can continue.  If long rates reverse back down, that calls for defense.  And, a careful position somewhere in the real estate or construction sectors probably is useful.

In the meantime, I hear the usual talk about how deficit spending is inflationary and how the increase in Treasury supply will drive interest rates higher, etc.  It really does make sense, and it would move me if I saw any evidence of it in historical data.  Yields will mostly reflect monetary policy and sentiment.  Intrinsic value trumps supply and demand.


  1. I don't think the NeoFisherians are correct, but....

    I am expecting housing costs to flatten on the theory the closed-access cities can't get away with higher rents anymore...

    1. Poor move out, rich move in. Median rent to income stays at 45%, but composition of population raises relative incomes. Rinse and repeat.

  2. From what I saw in L.A., you are correct sir.

    Long Beach, a big city no one knows about, is going to rent control.

  3. Well, this is night bar-talk type speculation, but here goes:

    ESS ticker is Essex Property Trust, owner of West Coast apartment buildings. They are down in last year.

    This downtrends fits with my surmising that rents are topping out in closed-access cities. People are moving out, Amazon is moving out. Business cannot expand anymore.

    (Of course, higher interest rates play a role in ESS's ticker)

    This flattening or rents may result in another undercut on the CPI or PCE, though it will take some time to factor in.