Gasoline lights up US consumer inflation; underlying trend steadily improving

US consumer prices increased by the most in 14 months in August as the cost of gasoline surged, but the annual rise in underlying inflation was the smallest in nearly two years, likely giving the Federal Reserve cover to leave interest rates unchanged next Wednesday.

The mixed report from the Labor Department on Wednesday was published a week before the Fed's policy meeting and followed data this month showing an easing in labor market conditions in August. Economists, however, believe officials at the US central bank will continue to signal an additional rate hike this year given the stickiness in services inflation.

"There is nothing here to seriously put a Fed rate hike on the table next week, but there is enough to keep the debate about the need for one more hike in 2023 alive," said Conrad DeQuadros, senior economic advisor at Brean Capital in New York.

The consumer price index increased by 0.6% last month, the largest gain since June 2022, after rising 0.2% for two straight months. August's increase in the CPI was in line with economists' expectations.

Gasoline prices, which jumped 10.6% after climbing 0.2% in July, accounted for more than half of the increase in the CPI. Gasoline prices accelerated in August, peaking at $3.984 per gallon in the third week of the month, according to data from the US Energy Information Administration. That compared to $3.676 per gallon during the same period in July.

The cost of shelter continued to rise, though rents are moderating. Food prices gained 0.2% for the second straight month. Grocery food prices rose 0.2%, slowing from June's 0.3% advance as more expensive meat, fish and eggs were partially offset by cheaper dairy products, fruit and vegetables.

In the 12 months through August, the CPI accelerated 3.7% after climbing 3.2% in July. While that marked the second straight month of a pick-up in annual inflation, year-on-year consumer prices have come down from a peak of 9.1% in June 2022.

Stocks on Wall Street rose. The dollar was steady against a basket of currencies. US Treasury yields were mostly lower.

"As long as the economy remains resilient and inflation doesn't re-ignite, the market can rally into year-end, once we get past the seasonally weak months of September and October," said Chris Zaccarelli, chief investment officer at Independent Advisor Alliance in Charlotte, North Carolina.

RENT INCREASES SLOWING

Excluding the volatile food and energy components, the CPI increased 0.3%. A 1.2% drop in prices of used cars and trucks was offset by higher costs for motor vehicle insurance, hospital services, prescription medication as well as household furnishings and operations. The so-called core CPI had increased 0.2% for two consecutive months.

New motor vehicle prices rebounded 0.3%, the largest gain since March, helping to slow down the pace of goods deflation. Core goods prices dipped 0.1% after decreasing 0.3% in July.

The small decline suggests that progress towards low inflation would be slow. That was underscored by core services, which rose 0.4% for the second month in a row.

Services were mostly lifted by a 0.3% rise in the cost of shelter. Owners' equivalent rent (OER), a measure of the amount homeowners would pay to rent or would earn from renting their property, climbed 0.4% after rising 0.5% in July.

A further cooling in rents is expected as more apartment buildings come on the market. Airline fares rebounded 4.9%, reflecting higher jet fuel prices. But the cost of hotel and motel accommodation declined 3.6%. Services less rents jumped 0.5% after gaining 0.2% in July.

In the 12 months through August, the core CPI increased 4.3%. That was the smallest year-on-year rise since September 2021 and followed a 4.7% gain in July. The core CPI advanced at a 2.4% annualized rate in the last three months, the slowest pace since March 2021, a sign of progress towards the Fed's 2% target.

Financial markets continued to see less than a 50% chance of the Fed raising rates again this year, according to CME Group's FedWatch tool. Since March 2022, the central bank has raised its benchmark overnight interest rate by 525 basis points to the current 5.25%-5.50% range.

Some economists believe inflation risks are tilted to the upside in the near term, citing rising insurance costs, especially for motor vehicles. Health insurance costs in the CPI report are expected to rise from October through next spring after the Labor Department's Bureau of Labor Statistics, which compiles the report, recently announced changes to its methodology for measuring these costs.

A strike in the automobile sector could disrupt supply chains and boost motor vehicle prices if it lasted more than a month, with auto inventories already lean.

United Auto Workers union President Shawn Fain said on Wednesday the union was still seeking significant pay hikes as talks continued with the Detroit Big Three automakers, a day before four-year labor deals were set to expire.

A wage agreement would follow on the heels of recent hefty union contracts, including one at United Parcel Service. But economists were not convinced that would boost wage inflation, noting that a small fraction of workers were union members.

"If a strike is averted, and auto workers see large wage gains, the impact on aggregate earnings and inflation would be negligible given the number of workers affected, who comprise just 0.1% of the private payroll employment," said Michael Pearce, lead US economist at Oxford Economics in New York.

"Disruptions to supply would likely delay the recovery in supply chain conditions and put further upward pressure on new vehicle prices in the meantime."