Prices of many services are heating up again.
Last week, we learned that the Fed’s preferred inflation gauge—the core personal consumption expenditures
(PCE) price index—rose by 2.8% year-over-year in January. That’s the slowest annual rate since March 2021 and not too far off the Fed’s target of 2%.
But a closer look reveals that inflation is hardly up against the ropes and isn’t going down without a fight.
Case in point: The PCE index’s core services component soared by 7.2% in January from December—the largest month-to-month jump in more than 20 years.
That’s a big deal, as core services encompass areas of the economy where consumers do the bulk of their
spending—housing, health care, dining, hotels, car maintenance, entertainment and the like. If prices in those sectors move higher, there’s little chance of a significant decline in the overall inflation rate.
As the chart below shows, core PCE services inflation over the past three months (through January) is averaging 3.2%—while core services inflation in the Consumer Price Index (CPI) is even worse, averaging 4.5%. Both are up sharply from their recent lows.
3-Month Average Month-Over-Month (%) Annualized
Core services inflation is heating up, and it may be affecting overall inflation. Core PCE over the most recent three-month period is averaging 2.6%, up from its three-month average of just 1.5% last month.
The upshot: We aren’t counting on the Fed to cut rates at its meeting later this month. Given this recent spike, we expect the Fed to hold off until it sees at least three consecutive months of lower core services inflation. That means June at the earliest—and later in 2024 if services inflation stays sticky.
Personal Consumption Expenditures (PCE) price index measures the change in goods and services consumed by all households, and nonprofit institutions serving households. The Consumer Price Index (CPI) measures the change in the out-of-pocket expenditures of all urban households. Both are widely used measures of inflation.
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