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U.S. inflation data for September is here and points to still-too-high consumer prices. Yet, broader inflation expectations appear to be easing. What does this mean for investors? Chief Economist Eric Lascelles weighs in this episode. [8 minutes, 47 seconds] (Recorded: October 13, 2022)


Hello, and welcome to the Download. I'm your host, Dave Richardson, and this is the first in a while. We're almost labeling this an emergency podcast, although we never like to do that. Things happen, announcements come out and we don't want to overreact to them. We do want to react and get you information that helps you make good investment decisions. So when we get a big economic report, we turn to the hardest working economist in Canada, although a little difficult this morning to justify that label. You're in Palm Springs, Eric, you look a little relaxed for a hard-working economist.

Well, let the record show, we’re recording this at 8:00 a.m., Palm Springs time, and I've been up for hours, Dave, parsing inflation numbers and so on, so I'll hang on to that mantle. But you're right, this is about as close to a junket as I get in a year.

You see, I knew it. No one can touch you. And you're just about to walk up on stage and give a big speech and you've made a couple of minutes for us. So let's get right to it. Inflation report is out. The last two days in the US: producer numbers yesterday, the consumer number this morning, and it's the consumer number that sort of set everyone at tizzy this morning. What happened and what does this do with your view?

Right, okay, so the US CPI for September came out and indeed it was higher than people expected, including us, and it was too high. The monthly rate is running too hot. Now, let the record show, the overall inflation print was up 0.2%, which is actually pretty tame. The overall year over year change actually slid from 8.3% to 8.2%. So we had some things that were going our way. However, core inflation has been where the focus has been now for a while and the breadth of inflation. And so, people feel like they've got sort of a handle on gas prices and a handle on some of the bigger meteor things that were doing the big driving. But the concern is just all those little things that are really spinning right now and looking for evidence of that turning. I think we've talked before about how we're just waiting on the breadth to turn. A lot of the other things happen. The breadth hasn't. Unfortunately, that breadth of inflation didn't turn in September, so the core measure was still hot. It was up 0.6% on the month. People thoughts, including us, that it would be more like a 0.4%, the year over year number then actually went up and sitting down from 6.3% to 6.6%, still less than the 8.-something that the overall inflation report is reporting, but nevertheless up, not down. And so that's where the concern lies. It's a genuine concern because of course, that's the thing that hasn't behaved. That's the thing that's forcing the Fed to raise rates. And indeed, I think as we look forward to early November, at the next rate decision, it does look like a 75-basis point hike might now be necessary. We hoped maybe 50 would be enough, but without a lot of cooperation here, they're probably going to have to work a little bit harder. This is maybe silver lining stuff, but I will say as you mentioned, Dave, the producer price index for September also came out yesterday and its core measure was actually pretty tame. It was up 0.3%. I wouldn't say 0.3% is soft. It is pretty good in the context of the last few years. And in theory, producer prices bleed their way into consumer prices. So I'll take that, to be sure. I will say that core goods within this consumer price index were actually down on the month and so we weren't getting the sort of pressure that we often would get from that source. It was, by process of elimination, core services that were quite hot. Like medical care costs went up quite a bit. Housing costs were actually the one that captured the most attention and maybe did the biggest driving. And so, the cost of rent is still going up. Of course, rent is a funny one in the sense that even as housing markets start to cool with mortgage rates going up, rent doesn't immediately reverse at the same rates, if people who own the house are facing these higher costs. But on that front, I should say, and we've been tracking this for several months, when we look at measures of rent inflation in the US, we see lots of reports that it's starting to turn. It's not visible in this particular report, but beneath the surface there is some reversal that might be starting to happen that maybe shows up in future months. So, I'm walking away saying inflation is still clearly a problem. We haven't gotten the kind of reversal in core we were hoping we would get in the month of September. The theoretical underpinnings, Dave, are still mostly there. Keep in mind, of the four big things we think have been driving inflation, all four have turned. Monetary stimulus is gone. Fiscal stimulus is largely gone. Supply chain problems are improving a lot. The commodity shock— except natural gas— has eased quite a bit. And so, I still think it makes sense to expect inflation to get less high and strictly speaking it did, at least in terms of headline CPI, if only just barely. But September didn't help our cause quite as much as many of us had hoped. And so we've got to wait a little longer for some of those things to come through. In the meantime, the Fed has to work a little bit harder, unfortunately, and that's being reflected pretty amply in markets right now.

The inflation car has been driving along in Palm Springs for a few miles. If we lift up the hood, we see signs that things are cooling down, but the Fed is touching the hood— with the engine heat and the sun bearing down on it, and maybe it's even a black car— they touch the hood and it feels hot. And that's what markets are focusing on. And the Fed is going to react to that heat on the hood, and it means they're likely going to do more as opposed to less.

I think that's right. We all should have driven electric cars, maybe, Dave. Then we wouldn't be overheating. I'm sure there are other angles to this anecdote, but you're absolutely right, there are still signs of overheating. So that's the issue. I'm not convinced it can last all that long from a fifth perspective. I presented those four drivers before. The fifth being just the economy itself. And so here we are with an economy that's wobbling. I think the US is holding up better than most, but with an economy that is wobbling, we still think recession is more likely than not. That's not super fun when it comes to the economy itself or earnings in the short run and so on, but that definitely helps the cause in terms of pulling inflation down. We can already see companies saying that they are enjoying much less pricing power than they had not that long ago. Things are turning. It's a little frustrating. It's not showing up in the raw figures, but I'm still confident that we are going to see that happen.

And the big thing is, ultimately, inflation expectations are one of the most important factors in figuring out where inflation is going to be down the road. And those inflation expectations have been easing for a while now?

Yes, they're pretty well behaved, that's right. People are not behaving in a way that suggests they're budgeting for inflation to be high forever. And that's a good thing because it helps to prevent inflation from being high forever. Yes, that's true in terms of what people are saying they're doing with regard to spending and pulling forward or deferring purchases. It's equally true in terms of what we see businesses now saying in terms of their capex plans and so on. And of course, all of this is short-term economically painful, but long term quite helpful in terms of preventing inflation from becoming unmoored, essentially.

And so, just very quickly, what came out this morning, yesterday, the jobs report last week, does that change your view of the chance of a recession? The chance of a recession has increased based on this most recent reporting that we've seen?

Yes, I think that's fair. You've thrown a bit of a spanner in the works by mentioning the job numbers last week, which of course were very strong— we're just getting numbers all over the place—, but nevertheless, yes, I think on the net we could say a recession was quite likely beforehand. Now, it's even more likely. We have been throwing around 75% chance. I think the number needs to be higher. Don't pin me down on an 80 versus 85%, Dave, but something in that realm. Probably makes sense. It's hard to fathom the economy avoiding that kind of fate when the market now prices a peak Fed funds rate at 4.9%. That's a long way from 0.125%, where we were at the start of this year.

Okay, well, thanks, Eric, for hopping on quickly. I would say, go back to bed and get some rest before your big speech, but I know you won't. I know you'll be digging in numbers and working like you always are. Thanks as always.

Thanks so much, Dave. Bye, everyone.


Recorded: Oct 12, 2022

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