Moody's Talks - Inside Economics - Hot CPI and Hail Mary Outlook

Episode Date: October 14, 2022

Colleague Marisa DiNatale, Director Economist at Moody's Analytics, joins Mark and Cris to breakdown the September Consumer Price Index Report. They also discuss the impact of inflation on energy prices, food prices, the housing market, and wage growth.Full episode transcript.Follow Mark Zandi @MarkZandi, Ryan Sweet @RealTime_Econ and Cris deRitis @MiddleWayEcon for additional insight.  Questions or Comments, please email us at [e-mail]. We would love to hear from you.  To stay informed and follow the insights of Moody's Analytics economists, visit Economic View. Hosted by Simplecast, an AdsWizz company. See pcm.adswizz.com for information about our collection and use of personal data for advertising.

Welcome to Inside Economics. I'm Mark Sandy, the chief economist of Moody's Analytics, and I'm joined with two of my wonderful colleagues, Chris, Chris DeReedys, these Deputy Chief Economist, and Marissa, Marissa Dina Talley. Marissa, what's your title? I don't even know what that is. I think I ask this every time you're on the podcast. Senior director. Okay, there it is. Yeah, it's pretty simple. Well, she does a lot of things. Pretty unexciting. How to summarize.

She keeps the train on the tracks as far as I'm concerned. Yeah. So all the forecast work that happens all around the world, Marissa manages that process, and that's a very difficult process. So very important to have her on our team. So good to have you, Marissa. I know it's really-

Thank you. Thanks for being here. Yeah. Southern California. It's okay. I'm used to it at this point. You have 5 a.4.30 a.m. wakeups. I deserve a little sympathy.

Yeah, it's late. It's 9. What time is it? 9.08 Tokyo time, PM, PM. Yeah, okay. I showed you, I showed you Singapore last Friday, I believe. There's Tokyo behind me. Lovely. Yeah, nice.

You know, I have to say a strong dollar is a beautiful thing. Yeah. You know, it opens up many opportunities. Okay, we just lost. 80% of our listeners. Okay. We should go to London next. No, I was there before.

I was there before. That was my first stop. Okay. You should go back. Cheek. Yeah. Great time to visit Europe. Yep.

What's that, Chris? Great time to visit Europe. Oh, yeah. Great time to visit anywhere. You know, in Tokyo, it's 147 to the dollar, right? I mean, that's incredible. you know, that's a, I think you've got to go back 25, 30 years to find a yen that week against the dollar. That's all that's all people are talking about here, by the way, is the weekend, you know.

So, and whether the Fed Reserve should be more sensitive to the rest of the world when setting monetary. Yeah, I've gotten that question a lot. Yeah, right. Okay, well, we've got a lot to talk about. This is the Friday, October 14th. Is it, or it is still October 14th, right? I'm confused a little bit. Yes.

Yes. Okay. It just started for us. I'm so confused by these time zones. And we need to talk about the consumer price report that came out yesterday, a lot going on there. And while we're in this conversation, the retail sales numbers for the month of September are going to come out. And maybe one of us can take a look at that and give us a sense of those numbers because that's kind of critical to what's going on on the growth side of the economy. And we'll play the stats game.

I think we'll have a little bit of fun with that. And we'll call it a podcast. So I was going to say one other thing. I can't remember what it was. Shoot. It'll come back to me. But anyway, oh, this is what it was. So I'm having a conversation with a client here in Tokyo, and they're saying,

boy, inflation is so high. It's really high. And I'm going, oh, what is it? And, of course, I knew what it was. But just for the conversation, he goes, 3%. Inflation is 3%. I go, I go, Thai by Japanese standards.

Yeah, I go, buddy. You want to trade? You want to trade? I should have said that. Yeah, right. So that leads into the CPI number, the Consumer Price Inflation Report. And I don't know.

Chris, do you want to summarize that? Sure. Yeah. Yeah, I'll summarize it in a word. Hot. Very hot. The headline CPI, so overall, Consumer Price Index came at 8.2% right, year over year, month over month, that's 0.4%, which was very high.

The expectations, our expectations were for 0.2%. So double what we expected. And that's up from August, which was 0.1%. So moving in the wrong direction, certainly, shelter, food, medical care were primary reasons. But one thing that struck me about the report is just how broad the the price growth is. Energy came down a bit because of gasoline prices, but food was up 0.8% again. And that's, that certainly hits consumers' pocketbooks directly. Core inflation was up as well, right? So this is equally disturbing, perhaps even more disturbing. This should be the one that the Fed is focused on a bit more stripping out food and energy. Point six, up 0.6%. in September, same as August, and we are at 6.6% year over year. So here again, we expected it to rise a bit, 0.3, but it came in much faster than that expectation. And again, kind of a broad base set of factors impacting the core as well.

You had shelter, so house prices still, or housing costs, rather, still impacting and pushing up core inflation. What was it, new vehicle prices came in a bit stronger, motor vehicle insurance, medical care. So lots of factors that are lots of components that were driving inflation up. Yeah. And as you point out well above our expectations, both on the top line and core, I think, as well, right? We were expecting 0.3% growth and core. So did expect to see and continue to rise there, but point six is really high. That's double. Yeah. Okay. Bummer. I'll have to say very disconcerting. There's two months in a row pretty disconcerting CPI reports, at least at face value. Marissa, anything to add there? Anything you want to fill in? Just that within, within all these

components, it was really, it's really the service sector that was, hotter. So core goods on a month-to-month basis was zero. Prices stayed the same. So it was really services that picked up and the growth in services was faster than it's been in months and months and months. And as Chris said, it's housing, it's medical care, it's airfare, airline tickets, transportation, kind of across the board. Well, there goes my statistic. I always have to have a backup. I absolutely have backup, but the service is definitely was something to emphasize.

You know what struck me? How many components of the report had an increase of 0.8%? Yeah. Not like it was everywhere. Food prices were up 0.8%. You're right. Rent of shelter up 0.8%.

homeowners equivalent rent, which is what the theoretical rent homeowners pay, up 0.8%. Airfare, up 0.8%. It was like, you know, come on. It was 0.8 everywhere. And of course, that's month to month. Yeah. And it's simply multiply by 12. And you go, oh, that's shocking. It's pretty close to 10% annualized growth. So that got me, you know, pretty disconcerted, you know, very, very hot inflation number. I want to do two things, though. One is I want to talk about the outlook for the CPI inflation. And I'm going to put a frame around that and don't want to go component by component

and talk about where it feels like inflation for those components are going and then add it up to total inflation. And then when I do that, I feel a little more comfortable about the outlook. I mean, obviously, here or now, there's nothing to feel comfortable about, but the outlook feels better to me. But here's before I go there. The other thing I want to do is what in the world is the market's thinking? So, okay, the CPI number. Here, I'm in Tokyo.

Of course, the CPI number comes out late in the evening. And I look at the number, and of course, I see nothing but red everywhere. Stock prices are down a lot. I think the S&P 500, is it down to 35? It touched 3,500. Yeah. About 500. And by context, the peak back in the start of the year was 4,800, right?

So that, you know, we were getting down into down 25% plus, you know, something, something like that. And I think the Dow, what was the Dow down at the low point, you know, yesterday? Was it down five, six, seven, 800 points? I don't know. A lot of red. Bond yields are going skyward. I saw the 10-year treasury yield at 4%. the dollar soaring, you know, you know, that's what you would expect. So you get this high

inflation number that says the Fed's got to go on high alert. That may mean higher interest rates than is currently discount, that was currently discounted the market. Then I go to bed. By the way, I couldn't go to sleep right away. Jack me up the damn number, which never happens. Maybe it conflated with jet lag. I'm like flying all over the world. So, Could be that. I'm not sure. And then I wake up and I see nothing but green. And I like I like I go, oh, this maybe my screen didn't refresh from five days ago or something. Like, or maybe I'm looking at the Nikai or something, you know, or maybe I'm looking at P prices. I, you know, I was like so confused. And it was up 800 points. The S&P, what did the S&P end at? 36, 3,700, something like that. So, okay, Chris, what explains what in the world? And it's not just the equity market. It's felt like all markets kind of changed pivoted, you know, sometime when I was with the bed and when I got up in the morning.

So in Tokyo time. So what happened? And as you know, I said, here's a funny thing, Marissa. So I'm emailing with Chris and Ryan. And I'm saying, what happened to the stock market? And I had to ask that question, I'd say five times before I got any kind of answer whatsoever. These guys were ignoring me. They were ignoring me.

And then finally, I was thinking, maybe I should put in all caps. You know, what happened to the stock market? So what happened? Five times? I don't know. I was waiting for Ryan to give his answer. Three times. You know, it's hard to say.

about fundamentals, right? Everything you described in the first part completely made sense, right? The inflation number comes in hotter than expected the market. Craitors, right? You would expect that, that all made sense. Why did it rebound all of a sudden? It's speculation, right? A lot of animal spirits there is what I would suggest. You could say, well, maybe investors digested the report, the CPI report, and yeah, it was hotter, but they kind of expected it would be hot for a while. So they started read through the, uh, read through the report and realize that it's not terribly different from the Fed script. There's still, that's still going to go 75 basis points this month may not change the trajectory all that

much. And maybe they turned it around. But that's hard to justify in terms of the massive rally that came back, right? That would justify, okay, maybe they, they take back some of the losses, but why continue or propel the market up? My explanation might be just some type of triggered trading. It's curious to me that the bottom was right at 3,500. We know that there's a lot of cash sitting on the sidelines, especially with higher income households. I suspect that they may have triggers out there that says if the market hits 3,500, that's the time to invest. So maybe that explains part of it, or algorithmic trading, kind of doing the same thing and taking on the mind of its own. You know that much of the stock market trading today is actually algorithmic

done by robots rather than people. And as soon as those prices start to rise, there's momentum trading that goes on and it can propel things higher. So bottom lines, I don't know. There's no economic reason I can see for this type of reaction here. Was it broad based or across all sectors or was it, yeah? It was fairly broad-based. The banks and the sectors that would do, I guess, relatively better in inflation or with higher rates did rally. But it wasn't exclusive to those sectors.

It was fairly broad-based. Well, it could just be a classic bear market rally, right? Yeah. These things happen, too. Well, I will have to say, last night before I went to bed, and I saw all the red on the screen, I was thinking to myself, I think I'm going to buy. Because, you know, I'm a long-term investor. I'm a long-term investor.

I don't care if it goes down another 5% or 10%. This is now value. We're now at a place where the stock market is, the P.E. multiples are way in. And, you know, don't a big, ultimately, you can't bet against American companies that are going to do well. So if you want an entry point into the equity market, this is your entry point. You know, maybe it goes lower. I don't know. But I'm not worried about that because I'm looking long run.

And you can buy a lot of stocks that seem so out of reach, you know, but not long ago. And now feel very good. And so, and that people got cash, right, that they built up. I think you mentioned this, you know, during the pandemic, sitting in their checking accounts and they're saying, what do I do with this cash? I get that question all the time, you know, what do I do this cash? You know, from my mother-in-law on down, you know, what do I do with this cash? And I would well my mother was 93 so I wouldn't say mom buy equity at this point.

But but nonetheless you get my point. And then maybe then you get short covering, right? Maybe you got you have folks out there short in the market and they are getting caught in need to cover their shorts. And that drives the market up a little bit further as well. And then the algorithmic trading kind of kicks in. And so maybe it's mostly what you call a technical, you know, but maybe the, there's some fundamental element to it. You've got this floor under price because people have a lot of, particularly high

income households that tend to invest in socks, have a lot of cash sitting there, earning nothing, you know, so they might feel this like this an opportunity. I don't know. But the other thing is it, it wasn't just the equity market. It was the bond market. So, you know, 10-year yield, I think it's kind of ended where it started, you know, 3.9, got to 4%, maybe a little bit above, came back, you know, 395, didn't feel like it, you know, moved to any significant degree based on the report.

The currency market, the crypto market, everything felt like it kind of did a full U-turn and landed where it was prior to the report. So I found that, you know, very perplexing, you know, very interesting. Okay. Ten years at 388 now. Is it a 388? Yeah. Even oil prices.

Take oil prices, right? Yeah. Oil prices are backed down. So OPEC announces a 2 million barrel. a day cut, which the reality is, you know, it's probably closer to a million, given that a lot of OPEC members weren't producing it, their quota. And prices did jump for a day, maybe two, and they're right, they're not that far. They're within spitting distance of where they were before. There was even, there was the rumors around the OPEC plus cuts, you know, came into being. So, you know, it's really

quite interesting, you know, that the markets didn't react to it, certainly on the way I would have anticipated. Let's talk about the outlook for inflation and continue to focus on CPI inflation. Then we can broaden out to the PC, the consumer expenditure inflator, which is the price measure the Fed tends to look at. In here, I just want to try something out on you. You know, my, my, my, my, my, my, my, my, my, my, my, my, my, my, my, my, my, my, my, forecast is that on a year-over-year basis, CPI inflation, which, as you said, is 8-2, is cut roughly in half six months, nine months from now. And then as you look out, say, 18 months from now, 12, 18 months from now, is back down the target. So you go from 8%ish down to 4%ish pretty quickly here in the next six or so months, kind of hang there for a

bit, and then it slowly starts to come into around two and a half percent, which is kind of the top end of the range for the consumer price index for the target range for the Fed by early 2024. Let's say the spring, early summer of 2024. In the way I get there is I kind of go through each of the components of inflation and say, you know, where is this headed on a year-over-year basis? So let's do that one at a time. Number one, energy prices. So here I'm assuming that, that oil prices stay roughly where they are. You know, 90. On WTI, it's below 90, but Brent is a little bit above 90.

So let's just say they stay around 90, 95 bucks. Maybe get as high as 100 bucks a barrel, you know, going forward. If that's the case, then gasoline prices will stabilize around $4 a gallon. Remember, the peak was $5 a gallon back in the summer, June. they got as low as, I think, $350, $3.60, they're now back, they're going to hang around four. If we stay there on a year-over-year basis, inflation, energy price inflation, will, you know, abate. Right now it's still very positive on the year of your basis because at $4, you're still well above where you were a year ago. But that'll come out by March, April next year and basically, you know, go away as a source of inflation.

Okay, let me stop there. What do you think of that outlook for energy prices and its contribution to a inflation? Mercer, do you have a view on that? I think that makes sense. I would expect not much change going forward in energy prices, right, on a month-to-month basis. So then it's what about all the downstream stuff to energy that is inflationary to. Other energy-related commodities, other things that use energy. inputs should we expect to see a downshift in price growth in those categories too.

Right. And we, and we, I know you'll get to this, but I'm just sort of teeing it up. You know, some of the components, like let's say transportation or food, we know food is very closely linked to diesel prices. So some of that we're starting to see. You can see bits of it starting to come in, but other parts of it. that are still very inflationary and have been picking up. So it's a little more, I think those components are harder to get,

at least for me, they're harder to gauge. It's a little more nuanced when you go line by line through some of the other things related to energy. But overall top line energy, I agree with that. Yeah. You make a good point about, because the food prices have been rising very rapidly. Right. A lot of that is the cost of transporting the food from the farm to the store shelf.

that goes to diesel. Diesel prices have been more elevated than gas in the prices because a lot of that diesel is finding its way into Europe where prices are higher because of the problems created by the Russian invasion of Ukraine. But nonetheless, you would expect that with lower oil, lower diesel prices, that that would take some of the steam out of food price inflation going forward.

The other thing is with regard to food prices is the agricultural commodity prices, they have come back in. You know, they surge, many of them surge during the Russian invasion, at the start of the Russian invasion, everything from wheat corn to fertilizer, but that has come back in. So that also should take some pressure off of food prices. Chris, what do you think of that outlook for oil and the implications for inflation? I think it's reasonable that we would kind of see.

fall in this target range. That seems to be what OPEC plus is also designing. I think, to answer this question, really need to think about the recession question, right? I'm going to bring it up early here, but it really depends if you think we are going into recession, or if we actually do go into recession globally, then certainly you could actually see energy dragging or taking away from inflation, right? It could actually turn negative. But what can I stipulate on my, Can I stipulate on my forecast from eight to four in six, nine months to two and a half, 12, 18 months, or more closer at 18? That is a non-recession scenario.

That's what I figured. That's what I figured. Yeah. Wildcard, I would want to get your opinion on is the Strategic Petroleum Reserve, which has been helping keep prices from going even higher, right, releases from the SPR. that's set to, well, there's no plan I know of to increase those, certainly, and actually is set to be refilled at some point. Does that act as a drag and actually support price growth? Or would OPEC compensate?

Is this just a, are the recent actions by OPEC Plus just compensating for the street patroling reserve? So, you know, it'll net out if we back off, or if the U.S. backs off on the, SPR releases, then OPEC will back off on its hikes, or what do you think is the dynamic there? Yeah, so two things. One, I do expect more SPR releases. And, you know, I'm assuming we get on average a release of about 700,000 barrels a day over the course of the next six, nine months. And that is critical to providing the supplies necessary to fill the void left by the sanctions on Russian oil. And I am assuming the European Union does follow through on its sanctions, and that's four and a half, I think it's 4.4 million barrels a day that comes offline as we move into next year

when they implement the sanctions. So I am assuming that. I do think there's enough oil in the SPR to kind of provide that to the marketplace through most of next year. Then it might get a little hairy as you start to draw down the SPR inventories. But the second thing is I agree. I, I, I, I, I concur with what you alluded to, and that is I think the Saudis and OPEC are calibrating production quotas to maintain an oil price that's somewhere between $90 and $100 a barrel on Brent. Because at $90, $900 a barrel, they can make money, right? You know, I was in the Middle East the week before a lot, the week before this week.

And so I got to know a lot more about, you know, the fiscal situation there. And like the Saudis break-even oil price is about 75 bucks on breadth. So they need, when you start getting down to 80 bucks, which is where we were getting before they announced those cuts, you're getting pretty close to that break-even. And that's a problem for them because when I say break-even, they don't have cash to invest in all the investments they're making and trying to diversify their economy. It's just meeting the basic needs of the population. So my view is that as, you know, the SPR starts to, you know, get to a place where needs to start winding down, we'll see OPEC, you know, respond to that.

Obviously, other variables matter like what the state of the economy, how much oil is China buying, so forth and so on. You know, what's going on with Russian oil, the price caps and everything else. But I am assuming that the OPEC is a rational actor, economic actor, and will, you know, price oil at 90 to 100 bucks a barrel. And they have capacity to, given the slack in oil demand and capacity, they have the ability to calibrate things for that oil price. So that is my working assumption here. Okay. You make sense?

Yeah. Yeah. Provided there's no recession, yes. Okay. All right. So we talk, yeah, no recession, you know, inflation is coming in a lot faster. And one of the reasons is global oil demand is going to be evaporating, right? And oil prices are coming down.

Yeah. No, totally agree. No, I'm trying to figure out. how we get inflation down without actually going into a recession. Got it. By the way, retail sales just came out. Oh, yeah. What were they?

Well, I can't quite see the entire, but it's no change over the month, zero. Zero. What was expectations, do you know? Does anyone know? It was positive, small positive. Small positive, yeah. Right. Okay.

Point two percent was consistent. Okay. Okay. I guess the one thing we need to know is X food energy. Yeah. Excuse me, not X food energy. X cars. X autos, 0.1% top.

Okay. And gasoline? That would probably have to be positive probably, right? X, auto, X, gas. And gas and autos is 0.3%. Okay. That's not bad. And what about X auto, X, gas, X.

I know I'm stretching things. Building material. They're building material. Because that's what goes into consumer spending. Yeah, you're right. You are stretching. It's not in my alerts. Okay. We don't worry. We don't have to go in the report. You know what they call that? Maybe that's Mercer's statistic. Control retail sales. Yeah. Okay. That would be a great one if she selected it during the podcast. That would be a good one. Yeah. Well, maybe we can we can look at

try to figure what that is, the control retail sales if we have an opportunity. But that doesn't sound, that doesn't sound great, but it doesn't sound too bad. You know, 0.3, auto, X, X gas. That seems pretty reasonable. Okay. Is that too hot? Is that still too hot then? I don't know.

It's expectations, right? Well, if there's a little bit of inflation, right, that means like zero real growth, doesn't it? Sort of mean that? I mean, it feels like you'd want it. I think. All right, let's keep on the frame.

Okay. We talked about energy in the past three, into food and other downstream of prices, goods prices. The next thing is supply chains and various prices for products that got disrupted, but prices that surge because of the disruption to the supply chain. Vehicle prices being the poster child for that, but goods prices more broadly. And we got a point eight on new vehicle, another point eight, I think, right, on the new vehicle.

those increases have got to stop, right? I mean, they can't keep going up. And my thinking here is, and use vehicle prices, they're no longer going up, but they didn't really fall, not really falling, at least not falling as much as you would think given the auction prices, right?

Okay, but they fell 1.1%. They fall in three months in a row. They should be falling, but I think they should be falling more. Faster, yeah, I agree with that, but at least they are. in the right direction. Direction. Yeah.

So my thinking here is we should get good news as well, right? Because, again, you know, we're making assumptions, but the assumption here is that supply chains continue to iron themselves out. You know, the China's backup and running, they've gotten through the last wave. In future waves, probably won't be as disruptive because they'll wind down their no COVID policy. It feels like that's the direction they're headed.

and we should get more chips, more everything you need to produce vehicles. And we should get vehicle production. Vehicle production is already normalized in the U.S. We're back producing cars at the same rate as we were pre-pandemic. Still in Japan and Germany, which are the other two major, other than China, vehicle producers in the world that export, their production is still well below pre-pandemic. But that should improve with the supply chain. and as we get into next year, next spring, next summer, we should start to see enough vehicle

production where inventories start to rebuild and price growth moderates. It even starts to decline. So we get vehicle prices right now adding significantly to inflation. They will start becoming neutral to actually a weight on inflation, let's say six, nine months from now. Okay, let me stop right there. What do you think of that perspective? Chris? Supply chains are improving, right? If you just look at the cost of ship a container across the ocean, across the Pacific, right? It's come way down. So that's one indication.

But we do have some labor unrest potentially, right? We have railroad strike potential that the union voted down. So I think really across the grove, across Europe, you have workers who are responsible, responding to the wage pressures as well, asking for more, asking a threatening strike. So those supply chains, I still see as being somewhat fragile there, right? I think your script makes sense if nothing else happens, but there is that risk that that things could turn around here. So I think you're right in terms of the broader trend.

I also wonder if consumer demand might moderate. for new vehicles as well, right? If we are, even if we don't go into recession, right? People are going to be a little bit more cautious and on edge, and that certainly could help remove some of that inflationary pressure. So I agree with the outlook there, but yeah, the risk. Touch and go in terms of the risks that are out there.

Yeah. Mercia, anything to add there on the supply chain? Just that I saw that within the vehicle sector, you know, it's not just manufactured new vehicles where prices were up. It's also parts and repair services and all of that, right? So that kind of makes me wonder if there is still some supply chain stuff going on. If there are, we know some of the parts and the metals that are used in cars have to pass through Ukraine, Russia. And with that conflict still going on, there's always that chance.

that things become still, you know, they stay messy. So until that completely clears, then I think there's always that risk that you have some disruption for some of these commodities coming out of that part of the world. So generally, I agree with you that that should be the trajectory, that I think there's still that risk out there. Yeah, yeah. I guess the other thing to add to the pot here on this issue is other good, goods prices. I pick vehicles as the poster job, but there's been other significant disruptions

to the delivery of other goods, you know, from building materials to appliances, to consumer electronics, to apparel. It feels like those are becoming less of an issue as well. In fact, we've seen inventories of those things build up pretty significant degree. And it feels like retailers are going to have to be pretty aggressive with their price discounts on those products as we go into the Christmas buying season. So I think that should also be helpful as we move towards the end of the year into next. Yeah, okay. Yeah, smartphone prices were down again.

Although they're always down, I think, right? Well, you had this new iPhone come out. Yeah, exactly. It does a lot more, but at the same price. Yeah. I mean, that's the quality adjustment that the BLS, the Bureau of Labor says, I think. Yeah. Okay.

All right. So we got energy. We got the downstream effects, food and some other products. We've got supply chain, vehicle prices, maybe some goods prices. Let's turn to housing costs and rents. And here, too, it feels like we might have some better news, right? I mean, I'm going to turn to you, Chris, because you know the data better than I. but my cursory look at the data here is a bit of a blur being in in Europe and Asia.

But it feels like market rents are starting to really weaken. I don't know if they're declining yet. Are they declining? So asking rents. Asking rents. So kind of the market limits, you know, not what's in the CPI because that reflects market rents from six months ago or nine months ago. The entire market, right. This is silver.

New leases, yes, they are weakening. certainly on a month-to-month basis and year-over-year is coming down across many markets. So, yeah, that is helpful. That points to some weakening in the overall CPI inflation component. But as you alluded to, it takes time for those new market rents or new leases to actually filter through into the CPI inflation index of all leases. So we might be at peak. That's good. And then we'll gradually see some weakening throughout 20203.

But it's going to be a long process. I mean, housing is going to continue to push up on inflation for a while here. Even after, right, even if the other components that you mentioned start to turn and go away just by the nature of how it's calculated, housing is going to continue to be a drag. Do you know, are rents actually falling yet nationwide? Or are we talking about that the rent increases are moderating significantly? On a month-to-month basis? Yeah. Yeah.

Oh, cool. At least, well, there are lots of different indices. Yeah. The ones I've seen, the major ones, yeah, they do show decreases month to month. And what's going on? I mean, I'm sure it's supply and demand, but what's driving this right now? So both, yeah. And asking market rents.

I think a lot of it has to do with the affordability piece that you just can't, people just can't afford to pay more, right? They're not getting the wage increases that would allow them to pay that extra 10% or 15% that they might have been required to last year, right? And that is leading to household formations slowing or outright demand destruction. You do have supply coming online, too, as you mentioned. So that's the one bright spot in the construction picture. When we look at housing, it's the multifamily side.

Starts have been strong. Depletions have been continuing to ramp up. So that's positive. That is putting more supply on the market. But yeah, I think it has more to do. with the demand weakening, right? Although there's lots of demographic demand out there, people want to move out.

It's just not affordable for them at the moment. Yeah, it's so called demand destruction, right? The price is so high. They literally can't afford a rent, therefore the household doesn't form otherwise would have more. Yeah. What about? They're not going to be first-time homebuyers either, right?

That's for sure. Right. I mean, that's not an option. That's 7% mortgage now. Yeah. Well, I think earlier in the year when mortgage rates didn't get as high as they were, when they first started to rise in affordability for single family became an issue, that actually helped increase demand for rent. For rent. Yeah. Right. Because they couldn't, first time buyers couldn't become potential first time buyers couldn't become first time of ours. They stayed renters.

That juiced up demand. But now we're at a point where you can't afford a single family home and you can't afford the rent. And that's causing that demand destruction and that's causing rents to to weaken, along with the increase in supply that we're getting. It is, and again, going back to supply chains, as they iron themselves out and building materials become more available, as appliances become more available, you can complete more multifamily units where, and there's a record number of multifamily units in the pipeline to go into completion. What about remote work?

You know, one dynamic that I think might have served to increase rents is the move of people from big urban centers in the northeast down to the southeast and to Texas and folks from the from the Pacific coast into the mountain west. And it really, you know, it helped moderate rents in the big metropolitan areas, but it really juiced up rents in the places where they moved to. And it feels like that also contributed to the strong rent growth. And that now is starting to unwind or at least slow down. and becoming an issue. Do you think that's, I think that's, I think we had John Burns on and that was a point he was making, John Burns being, you know, really great housing economists. Does that resonate with you guys as well? Marissa. Yeah. Chris, go ahead. Go ahead, Chris. Yeah, I think so, right?

Yeah. At the very least, I don't see more or accelerated, um, remote work arrangements. If anything, people are taking a second look in terms of our employers are taking a second look in terms of requiring people to come into the office a few days a week, the hybrid work. So we may not see a complete reversal, right, in terms of those remote work arrangements. But I don't think we're going to see much more anytime soon. And so that should contribute to taking off some of that demand or pressure as well. Right, right. Okay, so my kind of forecast is, expectation is that now that asking rents, market rents are weakening, actually declining, that that will start to translate over into weaker CPI for housing costs, rent of shelter, homeowners equivalent rent, not soon, not quickly, not certainly between now.

in the end of the year. But by next spring, summer, I would start to expect that to start to slow and become a, you know, much less of a tailwind to overall inflation as we move to the second half of next year. Does that, does that resonate? Does that make sense? Yeah. Okay. Yeah. You're shaking your head. Okay. Yeah. It won't be fast, but yeah, it'll be fast. That's a year from now when you start to really show up. But that goes to my forecast. We go from eight now to four. by next spring summer, and then getting from four to two and a half, that's going to be more work.

And part of that is the slowing in housing costs. We're not going to get 0.8 is what we got last month. We're going to start getting something much less than that a year from now. Yeah. Okay. All right. All right. Here's the next thing.

Wages, wage growth. This goes to the cost of the consumer prices for all kinds of services. Most significantly, I think, medical care, because medical care is a source of inflation that's become much more of an issue in recent months. And I think that goes back to the fact that the health care sector is very labor intensive. And if you've got strong wage growth, that starts translating into strong cost of medical care. The hospitals and other facilities start to raise their prices more aggressively. And that takes some time for that to occur because there's all kinds of contracting that occurs that slows down

the transmission of the higher labor cost to actual medical care inflation. But it's now starting to show up. But my thinking here is that the Fed, this is where the Fed comes in. The Fed is raising interest rates and will continue to raise them aggressively, significantly enough to slow down job growth, virtually coming to a standstill, causing unemployment to start, causing all those unfilled positions to evaporate that's already started, causing layoffs to normalize, causing unemployment to start to edge higher, and that will allow wage growth to roll over and start to move back to something that's more consistent with the Fed's inflation target.

That will take a lot of time. And that's why it takes close to 18 months. It's not until, you know, spring, summer of 2024 before inflation is back to target. Marissa, what do you think of the logic of that, that logic? This is the part that worries me the most. I mean, we've already seen wage growth kind of seemingly top out. If you look at the ECI and you look at other measures of wage. growth, it doesn't look like it's accelerating anymore. It's around 5% and it's kind of hanging there. So the non-acceleration is good. What worries me, you mentioned medical services, right? But it's kind of a lot of services. If you look at that CPI report, it's all over the place. And that's where I get worried that are we entering this situation where all types of businesses are

starting to raise prices based on labor costs. And we're going to get into this cycle of then workers asking for more money and businesses relenting and then raising prices again. We've talked about the wage price spiral on this podcast before. Yeah, job growth has to slow, right? I mean, I think in your whole arc of everything you're saying in the back of, I know you're saying, I'm assuming no recession. But in my mind, I feel like we need some demand destruction to get from 8% to 3% in a year. 18 months. Yeah.

Okay. From even from 8 to 4. Two years. Not to put a fine point on it, but, you know. Okay. To go from 8 to 4, 4 to 2 and a half or, you know, the plan. Okay, let me push back on that a little bit. And then we'll get Chris into that because I'm sure Chris, I'm just sitting back and enjoy it.

Yeah, yeah. Let someone else do the heavy lifting. Okay. So it feels like wage growth is about 5%. And in fact, as you pointed out, more recent data, you know, and I don't want to put too much weight on it, feels like it's less than that, you know, four and a half to five. If you look at the average average early earnings numbers, I know we don't like to do that, but okay, I'll look at it when it conforms with my priors. And I'm honest about it. At least I'm honest about it.

There you go. It's on record, folks. Okay. It's on the record. And we, in my view, need to get to three and a half percent to be consistent with the two percent inflation target. That is 2% inflation plus 1.5% productivity. That's 3.5%. So if you get wage growth, that's 3 and a half percent. So if you get wage growth, that's consistent with productivity. And of course, there's all kinds of rounding here. But that's non-inflation or if we got to go from 5-ish, maybe a little lower to 3 and a half. You don't think we can do that if the job market comes to a standstill. If job growth comes to a stand, roughly a standstill, it's hard to calibrate that exactly. And you have unfilled positions of operating, layoffs normalizing, unemployment, notching higher, you know, slowly, but over time. You don't think that's, maybe what you're saying is, Mark, that sounds good on paper, but how can you are? Okay, but that's not a recession. That's not a recession. Not a recession. It's just no job growth, unemployment rate goes higher. Yeah. I think we could. You know, there's another side of wage measures, and that's compensation, the non-wage compensation part of it. We know medical costs are rising.

I think even in the CPI report, they show insurance costs, like medical insurance costs. So there's all these non-wage benefits to that employers have to pay. They can adjust wages, but they're basically kind of price takers in a lot of situations when it comes to the non-wage benefits. benefits. So yeah, I guess the calculation can work if wage growth or excuse me if employment growth comes to a halt for a period of time. Okay. All right. Well, Chris, let me, I can, I can hear what you're going to say, but go ahead and say it. Go ahead. Go ahead. No, no. I think. I think there is that path more broadly. But I think we also face deeper structural issues that, especially in medical care, right, aging population, immigration policies that limit the number

of health care workers. So I'm really struggling to see how that sector in particular, medical care, actually sees limited wage growth. That we, right, we can't, can we really eliminate those job opening. Labor shortage in that sector too? Already labor shortage. I'm really going to pull back even more. And this I also think goes to the demographic differences in the across households at this point in terms of the financial positions. So you have some older, more wealthier households, right?

Continuing to demand health care. And they have financial resources. they have a lot of excess savings at this point. Very hard for the Fed to do much to curb their demand for those inelastic goods. So I think they're fighting a real uphill battle in some of those sectors. At the same time, you have the lower income households that don't have those resources who are fully exposed to those inflationary pressures. Yeah, they'll cut back on their spending, but they are not the bulk of the overall macro spending.

So that's where I see really a complicated environment here, when it comes to the Fed policy and truly getting the demand down sufficiently to curb inflation without causing a recession. That's that's the crux where I'm really struggling because of these structural issues. Yeah, I guess the one area where I feel most vulnerable in terms of my forecast is medical care inflation. And, you know, adding to that is the fact that that has medical care inflation has a much higher weight in the consumer expenditure deflator. There's two measures of inflation that we'd look at. One is the consumer price inflation. That's what we've been talking about. But the reality is the Fed targets the consumer expenditure deflator, and it's weighted differently

because it's just measuring inflation in a somewhat different way. And medical care has a much lower weight in the consumer price index, much higher weight in the consumer expenditure inflator. And that is flip on housing. Housing is much more important to CPI. And when we're doing my CPI is so juiced is because it has a very high weight on housing, the PCE, the consumer expenditure rate are a lot less. But if medical care inflation continues to accelerate, that's going to be more of an issue for the PCE than the CPI and complicates the Fed's ability to, you know, normalize policy and to avoid a recession. So so I hear you. We've already, this has gone on quite a bit longer than I expected.

Yeah, always does. I always enjoy these conversations. Let's go to the game. Let's go to the statistics game. And of course, we each put forward a statistic. The rest of us, the other two of us, we're going to try to figure that out through questions and deductive reasoning and clues. And the best statistic is one where it's not too easy, one that's not too hard, and is

apropos to the topic at hand, which is obviously inflation. It doesn't have to be. It can be, you know, you have a license. So let's go with you, Marissa, first. What's your statistic? Okay. My statistic is 31% in September. Is it in the consumer price? Is it related to the consumer price report? Oh. Wow. Okay. Is it in the NFI? It's not in the, no, it's not in the CPI report, but it is related to inflation. Oh, okay. Is it a derived statistic?

Something you calculated? No, no. Mark, you said it. NFIB survey. It is, yeah. The percent of businesses that are raising prices? No, the other thing. Yeah.

The compensation raising price. They said they're going to raise price. That will, that are planning on raising. So it's, yeah, so it's the net percentage, it's a diffusion index, the net percentage of small businesses that say, that they will raise prices in the next three months. I didn't realize, wait, that's not a, and that's a, yes, it's the percent who say they're going to minus the percent who say that they're

going to hold prices steady or lower prices. It is, yeah. Okay. And that is down from an all-time series high, and this data goes back to 1986, that was 51% in November of 2021. So in November 2021, it reached this all-time high. It kind of stayed up there and it's been falling since. So now it's down to 31%.

And this series is pretty tethered to overall CPI. If you plot it along with the growth rate of CPI, they track very, very closely. And it leads a little bit too. So this may hopefully go, to the argument that inflation will abate one of these months that we'll start to see. Wait, wait, wait, wait, wait. Wasn't that my argument?

I'm sorry? That was my argument. I know. She's arguing for you. She's giving you a funny chance. I know that was your argument. Yeah. I'm saying here's some supporting evidence for that argument.

Okay. Yeah. Chris, do you hear that? You see how this? is done, you know, you come up with data that it supports my argument. That was not my, that wasn't my intent at the outset. No, I know, but I'll definitely take it. I'll definitely take it. Yeah. Okay, that was a, I get some, you know, I get some credit for that, don't you think, Chris? Yeah, I don't have my cowbell, but. Yeah, okay, I thought that was pretty good.

Save it for next time. Okay, you're up, Chris. What's your statistic? 28.2%. It's in the CPI report. It's in the CPI and you alluded to it earlier. Oh, it's airline tickets? No. No. Those I think were like 40% plus percent, 42%.

This is a component that's up 28%. 28.2%. A good or service that's up 28%. Is it in food? Food, not food? No. That's 10%. It's a service.

It is a service. Sorry, you said it was month over month or year over year? Year over year, thank God. Well, there is some crazy stuff going on. Yeah. Wow. This one's pretty crazy as well, 28.2 in a year. So that's why I highlighted.

Oh, I know what it is. Auto repair? No. No. That was up a lot too. That was up a lot, yeah. I alluded to it. Yeah.

Yeah. What component is up 28% year over year? And it's a service. It is. It's a service. Okay. And it's not healthcare related. It is healthcare related.

Oh, it is. Oh, what would that be, Marissa? What did I allude to? Oh, I said there's a short, is it? Is it nursing homes or nursing facilities? No, it's simpler than that. It's not as detailed, I guess. Oh, I give up.

Okay, health insurance as measured by the CPI. Okay. Health insurance. Up 28.2% up 2% in the month, right? I did allude to it, but I didn't know what the number was. I just knew it was really big. It's huge, right? 28.

Yeah. too. Now, the CPI has a weird way or a different way to calculate health insurance, right, than the PCE, right? It's, CPI is just capturing consumer out of pocket. Yeah. So that would be, what would that be? Like, like private health insurance? I'm trying to figure out who that would be, who would pay that. My guess, my understanding, and I try to dig a little bit, it's really, yeah, yeah. Dense, right? They go into this retained earnings calculation. It's quite complex how they try to derive it. I believe it, though, it is someone who, an individual who's going out and purchasing health insurance on their own. What is the increase in the premium that they're facing? And it'll go on Obamacare or something like that. They can't get a bomb care. I guess so. That's my. Oh, that's interesting. My sense. Okay. Okay. Whether it's right or it's, you know, it does factor into the inflation, right?

So you want to always be careful. It's not a huge component, but to the extent there are some measurement issues here. Right. They could influence the inflation as well. Okay. I've got one for that. Not bad. That's okay.

That's a little esoteric, but interesting. Well, you know, Mercer took my first one. Yeah. Yeah, that's true. Services. Yeah. I got one and I'm not sure this is going to be a hard one. I'm sorry to say.

but also I might have to give you a hint. It is related to the discussion we were having around inflation and the framework I put together. But I'll give you the statistic. It's 439 million. 439 million. Number that came out this week. Indeed it did. Oh, no.

439 million. Yeah. Big number. Units or dollars? It's not dollars. It's not dollars. It's, oh,

it can't be housing. Not housing. No. No. Energy. Energy related, yes. Oh, is it,

is it inventories? It is a feed. Oil inventories. Oil inventories. 439 million. up a lot, almost 10 million barrels in the last week. We get this data from the energy information administration every week. And I watch it pretty carefully because obviously, you know, we need oil. And it's probably overstating the case. I'm wondering if Hurricane Ian might have disrupted

exports because exports were down quite a bit, you know, during the week. It may also be, you know, there's a lot of discussion. Maybe we should restrict, exports, the Biden administration, at least some rumors coming out that they've been thinking about that. So maybe there were some holding back of exports, I'm not sure. And if you don't export, then that stays in inventory and cause the inventories to jump. But it does highlight something very interesting, and that is demand for oil is way down. It's almost 4% lower today than a year ago. So there is a lot of demand destruction going on. as a result of the higher energy prices.

And that helps with inventory, which ultimately helps with price. And I think it's one reason why oil prices, you know, did not have come back in despite OPEC announced the production cuts. So we need to watch that very carefully. And, you know, certainly that number of moving in the right direction. So, and I will say consistent with my forecast, my forecast, of where things are going. Let's end the conversation this way because, Chris, I know you need to go.

Two things. One, I want you to lay out what you think the path for the federal funds rate target's going to be in your most likely scenario for the economy. And also, what is your probability of recession? Maybe you should begin with the probability of recession. What is the probability of recession over the next 12, 18 months? And then what does that mean for the federal funds rate target going forward? And I don't know, Chris, do you know, last I looked, the market's expectation was for the Fed

was that the Fed would raise the fund rates at three quarters of a point when they meet in November, a half a point when they meet in December, another quarter point when they meet late January next year, that would put the federal fund rate target at four and a half and four and three quarters percent and that that's roughly the so-called terminal rate the high point for the funds rate it stays there for most of 23 to 24 and then starts to come in is that do you know chris is that roughly right can you tell um i looked yesterday and it was after the cpi report oh it was after the cpi yeah yeah it looks like terminal rate of 475 to 5 oh so it's 475 yeah so it's a little higher that's an extra 25 that's another extra 25 and

there's more probably now on 75, you know, 500 to 525 or 550. Yeah, right. So definitely moved up. Okay. So let me say what I just articulated is my forecast for the funds rate. And I would put the odds of recession over the next 12 to 18 months at 55%. They did go up. I was at 50 last week with the CPI number.

I think the path forward is now more difficult. So I put them at over even odds over the next 12 to 18 months. What about you, Marissa? What was your view? I was thinking between 60 and two-thirds probability of recession, yeah, over the next year. Right. Let's put it right at two-thirds. Okay.

You want to go right up to two-thirds? Yeah. Okay. And of course, for the listener, that's a key threshold, because once we go over two-thirds, then you're arguing for a change in our baseline. In the forecast, yeah. Yeah. So you're not calling for a recession yet in our baseline.

It's becoming harder for me to say that I, yeah, I'm right on that verge. I'm right on the edge, yeah, where it's becoming harder to say that there won't be a recession. But you're still saying no recession in the baseline. Yeah, because you are. It's your forecast. No, no, no, no, no, no. No, no, no. No, no.

I'm not making my own forecast. We're all going down together. Okay. And what about the funds rate forecast? You don't need to have a view if you have a view different. Yeah. I mean, I keep waiting for the inflation, the CPI report to turn over, right? And it's not.

It's looking more persistent. So I think the path you laid out for another 150 basis points seems reasonable. But if we get another report like this, I think then. where then I'd be more in line with what the market's saying is in even higher terminal rate. Yeah. Okay. What about you, Chris? I'm sticking with the 70% probably a recession.

And probably 425 to 450 on the Fed funds. We don't even get there because we go into recession sometime early next year. Right. Early and early, you think early next year, like next spring-ish. Spring. The timing is hard to get down exactly. But yeah, I think it's the first half of the year. I think anyone who says we should have a recession has to tell us when, right?

Yeah, yeah. It's fair. It's fair. Right. Okay. And next month I'm going to ask you what month we're going into recession. Because you've got to put it into the forecast. You got to put it into the forecast.

Oh, okay. I thought it was going to be the day and the hour. But month is not proper. That's coming. That's coming. That's coming. Refine your models. Yeah.

Okay. All right, very good. Anything else folks want to bring up, you guys? I think we covered a lot of ground. No? Have a safe trip. Yeah, thanks. I'm looking forward to coming home. I'll be on a jet flying back tomorrow. Get back in New York late tomorrow. I'm really looking forward to it. How's the weather there? It's a little cloudy, rainy. Oh, geez. Bummer. But the Wawa Coffee's, but we'll be waiting for you.

Okay. I'm looking for the while. That's the worst thing. When you leave your coffee behind, it's like terrible. Your day is never exactly right without the right coffee. These calculations are drinking, you know. Anyway, all right. We're going to call it a podcast. Talk to everyone next week.

Take care now.