CPI continues to trend down but shelter prices remain a headwind for progress

The September Consumer Price Index (CPI) report revealed inflation numbers slightly above economist expectations, with headline CPI rising 0.2% month-over-month (MoM), in line with August's increase but higher than the expected 0.1%. On a year-over-year (YoY) basis, headline CPI increased by 2.4%, surpassing the anticipated 2.3%. Core CPI, which excludes food and energy, rose by 0.3% MoM, matching the previous month but exceeding the forecast of 0.2%. The YoY core CPI climbed to 3.3%, also above the expected 3.2%.

The key drivers of inflation in September were primarily shelter and food prices, which together contributed over 75% of the monthly increase. Shelter costs rose by 0.2%, while food prices saw a more substantial increase of 0.4%. The rise in the food category was split between a 0.4% increase in the food-at-home index and a 0.3% rise in food-away-from-home prices. In contrast, energy prices provided some relief, declining 1.9% for the month, driven by a significant 4.1% drop in gasoline prices.

Energy prices have been a major deflationary factor over the past year, with the energy index decreasing by 6.8% over the last 12 months, including a sharp 15.3% decline in gasoline prices. However, not all components of the energy sector followed this trend, as electricity and natural gas indexes rose by 3.7% and 2.0%, respectively, over the same period. These contrasting trends in energy prices continue to play a significant role in tempering overall inflation.

The impact of this CPI report on Federal Reserve expectations is likely to be mixed. Although inflation remains above the Fed's target, the deceleration in both headline and core CPI over recent months supports a gradual disinflationary trend. This may reduce the likelihood of aggressive rate cuts in the near term, with the current market now favoring a more measured approach with two 25-basis-point cuts.

This inflation report also has political implications, as it is the last CPI release before Election Day, with inflation remaining a top concern for voters. While YoY inflation has come down significantly from its 2022 peak, the ongoing increase in core prices highlights the persistent cost-of-living challenges facing many Americans. The slight uptick in inflation could influence the Federal Reserve's strategy and the broader economic narrative heading into the elections.

Food prices have been relatively stable overall but showed a slight increase in September, which might impact consumer sentiment. While energy costs have provided some relief, the rising costs in shelter and core services suggest that inflation pressures are still present in the economy. These dynamics will be closely watched by both policymakers and market participants as they assess the trajectory of inflation and its impact on economic growth.

Overall, while the CPI report indicates a slowing trend in inflation, the modest overshoot in core and headline numbers keeps pressure on the Federal Reserve to monitor inflation closely. As the labor market continues to cool and service sector components adjust, future CPI readings will be critical in determining the Fed’s course of action on interest rates. The balance between controlling inflation and fostering economic stability will remain a key focus for both the Federal Reserve and financial markets.