Core PCE Price Index Inflation Report Higher Than Expected: How Inflation Can Break America

Core PCE Price Index Inflation Report Higher Than Expected: How Inflation Can Break America

PCE inflation

A home for sale in Orlando, Fla., Dec. 8, 2020. (AP/John Raoux, File)

Despite U.S. Federal Reserve efforts to slow inflation, the PCE or personal consumption expenditure index — the Fed’s preferred measure of inflation — rose a higher-than-expected 5.4 percent in January, reflecting an accelerating pace of spending and rising prices after a few months of trending down.

Even after adjusting for inflation, spending rose 1.1 percent in January compared to December 2022. These figures imply that consumers, on the whole, aren’t getting the message, underscoring the prospect that the Fed may have to raise rates more aggressively than investors had hoped a few months ago.

While the economy remains resiliently strong, the new PCE report keeps fear of a recession on the front burner. The U.S. stock market fell Friday on news of the PCE report and government bond yields rose higher. 

Optimistic investors have predicted the end of the bear market but inflation will keep interest rates and borrowing rates high and could tip America into recession. Companies won’t be able to refinance their debt and the real estate market could become paralyzed from higher mortgage rates. Home prices could fall, leaving Americans upside down on their mortgages with home loans that are higher than the home is worth — a scenario that broke millions of families during the Great Recession of 2008-2009.

Half of the respondents in a new Gallup poll said they are worse-off financially than a year ago. The same question has been asked in 50 years of polling, and only once before have so many people reported dwindling fortunes: during the Great Recession, The Hill reported.

The signals from the economy are confusing, according to the Wall Street Journal. Bond yields are rising and the 10-year Treasury is heading to 4 percent. Yet stocks have surged in 2023, especially speculative tech stocks that were hit hardest in 2022 by higher yields. “Put simply, last year higher bond yields were bad for stocks. This year they’ve been fine,” wrote James Mackintosh for WSJ.

Many economists and analysts, including Fed officials, are focusing on the PCE in this inflation cycle. Released by the Department of Commerce, PCE reflects changes in the prices of goods and services bought in the U.S.

The PCE price index is known for capturing inflation or deflation across a wide range of consumer expenses and for reflecting changes in consumer behavior. For example, if the price of beef rises, shoppers may buy less beef and more chicken. PCE is used primarily for macroeconomic analysis and forecasting.

The Friday PCE report for January showed a 5.4 percent year-over-year increase in prices, a higher rate than the 5.3 percent PCE year-over-year increase in December. The new PCE figures caused the S&P 500 to shed more than 1 percent.

The PCE increased by 0.6 percent month-over-month versus estimates of 0.5 percent and rose by 5.4 percent year-over-year versus forecasts of 5 percent. Meanwhile, core PCE rose by 0.6 percent versus estimates of 0.4 percent and climbed by 4.7 percent year-over-year versus forecasts of 4.3 percent.

The PCE report “sent shockwaves through the bond market as expectations built for more rate hikes and a much higher Fed terminal rate,” wrote Michael J. Kramer, founder of Mott Capital, in a Seeking Alpha report.

“Anyone that thinks this number wasn’t a massive beat has no idea what the implication will be and is likely living in some fantasyland,” Kramer added. “Not only did this reverse a disinflation trend for both headline and core PCE but it also means that more rate hikes are coming because the recent rate hikes have had almost no impact on inflation or slowing the economy … This is horrible news for the bulls because, at this point, stocks are overvalued relative to bonds and offer no earnings growth.”

U.S. homes lost $2.3 trillion in value from June to December, according to Redfin data. The average worker saw hourly wages fall by 1.8 percent in 2022 after adjusting for inflation. And the average individual retirement account lost nearly a quarter of its value in 2022, Fidelity Investments reported.

Many Americans don’t expect things to get better anytime soon, The Hill reported. Another Gallup poll shows that a record-high 48 percent of U.S. respondents believe the stock market will decline in the next six months. Most respondents also expect inflation and interest rates to rise.