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‘Disinflation is out and inflation is in’ after a hotter-than-expected March CPI report, experts say

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Some of Wall Street’s more pessimistic economists have warned for years that the “last mile” in the Federal Reserve’s battle with inflation would be the most difficult. Mohamed El-Erian, chief economic adviser at Allianz and president of Queens’ College, Cambridge, argued as far back as the fall of 2022 that inflation had become “entrenched” in the economy, meaning that, even with higher rates, it was likely to get stuck between 3% and 4%. 

For a time, that theory seemed to lack credibility. After hitting a 40-year peak of 9.1% in June 2022, inflation steadily faded over the following year as the Fed raised interest rates, reaching a low of 3% in June 2023. But since then, inflation has been trapped in the 3% to 4% range, just as El-Erian predicted—that’s too far away from the Fed’s target range for them to consider cutting rates to boost the economy and markets. And now, after two hotter-than-expected inflation reports to start the year, Fed officials just got another piece of bad news.

Inflation, as measured by consumer price index (CPI), rose 3.5% from a year ago in March, the Bureau of Labor Statistics reported Wednesday. The figure topped economists’ consensus forecast for 3.4% year-over-year inflation, and February’s 3.2% reading. 

“Disinflation is out and inflation is in with today’s CPI report,” Karen Manna, a portfolio manager at Federated Hermes, told Fortune of the data.

Rising energy and shelter costs were the main drivers of the jump in headline inflation in March. Energy prices rose 1.1% last month alone amid the recent surge in oil and gasoline prices, and shelter prices were up 5.7% from a year ago.

Core inflation, which excludes more volatile food and energy prices, also rose 0.4% month-over-month and 3.8% from a year ago in March, compared to consensus forecasts for 3.7%. It was the third straight month where core inflation rose more than 0.4%. Surging auto insurance, auto maintenance, medical services costs were largely responsible for the move. 

“For the Fed, this data has to be concerning,” Thomas Simons, senior economist at Jefferies, wrote in a Wednesday note. 

‘Kiss a June interest rate cut goodbye’

Fed Chair Jerome Powell and company have held interest rates steady since July 2023, hoping inflation would return to their 2% target without the need for any more economy-slowing rate hikes. For a time that policy seemed to be working, and Wall Street began to forecast interest rate cuts as soon as June. But now, “barring a steep turnaround in the economic data, especially the inflation data, it is hard to see how the Fed could justify a rate cut as soon as June,” Jefferies’ Simons said. And he wasn’t the only one with that take after March’s hot CPI report.

“You can kiss a June interest rate cut goodbye,” Greg McBride, chief financial analyst at Bankrate, told Fortune in emailed comments. “Inflation came in higher than expected, the lack of progress toward 2% is now a trend.”

BlackRock’s CIO of global fixed income and head of the BlackRock global allocation investment team, Rick Rieder, also said the latest inflation report made him “reassess” some of his views on the Fed’s battle against inflation, arguing that “progress appears to have suffered a setback.”

“The Fed can afford to be patient in bringing interest rates down from restrictive levels. We think that today’s report should delay the Fed’s anticipated policy rate cut this summer, and it’s probable that cuts will be pushed off until late in the year, or beyond,” he wrote in emailed comments to Fortune.

The change of heart on Wall Street follows multiple Fed officials predictions for fewer interest rate cuts than previously anticipated in recent weeks. Atlanta Fed President Raphael Bostic, a voting member of the Federal Open Market Committee (FOMC) that implements monetary policy, said in late March that he expects just one rate cut this year, arguing the economy has been more “resilient” than anticipated. “I’ve sort of re-calibrated when I think it’s appropriate to move,” he explained. Federal Reserve Governor Christopher Waller also called recent inflation data “disappointing” in March, and argued it means there should be “no rush” to cut rates.

Rising inflation and higher-than-previously-forecast interest rates aren’t great news for consumers, whose real average hourly earnings didn’t rise at all in March, and were up just 0.6% over the past 12 months. And it’s a similar story for investors. Markets reacted as expected to the hot inflation report on Wednesday, with all three major U.S. indexes falling more than 1%. With fewer market-juicing interest rates cuts on the horizon, John Lynch, chief investment officer at Comerica Wealth Management, warned that stocks could face pressure unless earnings surge.

“Equity indexes are increasingly dependent on the upcoming earnings season, as companies must deliver to substantiate higher valuations. Any profit disappointment likely brings the possibility of a near-term correction in the 5-6% range for the S&P 500 Index,” he told Fortune via email.

For investors, Gargi Chaudhuri, head of iShares investment strategy, Americas, argued that the latest CPI report means it’s time to be cautious and only invest in the strongest companies.
“In an environment of elevated inflation and resilient U.S. growth we believe investors should remain focused on quality companies with strong earnings and margin resiliency,” he wrote in emailed comments to Fortune.

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