- U.S. headline CPI is seeing upward pressure from oil prices but core CPI is expected to edge lower
- U.S. housing starts expected to show modest recovery after March’s sharp drop
- U.S. industrial production expected to show a modest increase
- Crude oil inventories expected to fall in weekly EIA report
U.S. headline CPI is seeing upward pressure from oil prices but core CPI is expected to edge lower — The market is expecting today’s Apr CPI report to show a small rise to +1.1% y/y from March’s +0.9%. However, the market is expecting today’s April core CPI to ease slightly to +2.1% y/y from March’s +2.2%.
The headline CPI posted a 1-1/2 year high of +1.4% y/y in January but then eased to +0.9% in March. However, the headline CPI is now expected to show some renewed strength in April thanks to the climb in oil prices seen over the past three months. Meanwhile, the expected April core CPI of +2.1% y/y would be down slightly from Feb’s 7-1/2 year high of +2.3% y/y.
While the March core CPI of +2.2% y/y was above the Fed’s inflation target of +2.0%, the Fed’s preferred inflation measure is the core PCE deflator, not the CPI. According to the PCE deflator, the U.S. inflation picture remains subdued. The PCE deflator in March of +0.8% y/y and the core PCE deflator of +1.6% y/y were both well below the Fed’s inflation target of +2.0%.
As long as the core PCE deflator remains below +2.0%, the Fed is under no imminent pressure to raise interest rates. However, if the core PCE deflator were to start showing a sustained rise, then the Fed would be under increasing pressure to raise interest rates since the Fed would no longer be able to justify a deferred rate hike based on the argument that its inflation target had not been met.
The Fed can also rest easy on the inflation front at present since market-based measures of inflation expectations remain “anchored,” in the Fed’s parlance. The 10-year breakeven inflation expectations rate has risen fairly sharply to the current level of 1.64% from the 14-year low of 1.11% posted in February when oil prices hit their low. The rise in inflation expectations has been driven by two factors: (1) the March-May rise in oil prices, and (2) the up-tick in the U.S. inflation statistics in early 2016. However, the current 10-year inflation expectations rate of 1.64% is still relatively subdued and is below the Fed’s inflation target of 2.0%.
U.S. housing starts expected to show modest recovery after March’s sharp drop — The market is expecting today’s Apr housing starts report to recover by +3.3% to 1.125 million following March’s -8.8% decline to 1.089 million. U.S. housing starts have been volatile in recent months with a big gain or loss in one month largely offset in the next month. The March housing starts level of 1.089 million units was -10.1% below the 8-1/2 year high of 1.211 million units posted in June 2015.
U.S. housing starts fell back in the second half of 2015 due to the weaker U.S. economy and concern about overseas risks. However, U.S. home builder confidence remains relatively strong and there is hope that home builders may boost their building plans this spring, particularly if the April U.S. retail sales report of +1.3% is a sign of a sustained resurgence of consumer confidence and spending. The NAHB housing market index has been unchanged at 58 for the last four reporting months (Feb-May), which is below the 10-year high of 65 posted in Oct 2015 but is still a relatively strong level that demonstrates solid confidence among U.S home builders.
U.S. industrial production expected to show a modest increase — The market is expecting today’s April industrial production report to show an increase of +0.3%, recovering half of the -0.6% decline seen in March. Isolating the manufacturing sector (excluding utility and mining), the market is expecting April manufacturing production to show an increase of +0.3% m/m, exactly reversing March’s -0.3% decline. U.S. manufacturing production showed no growth in Q1, rising by +0.4% in Jan but then falling by -0.1% in Feb and -0.3% in March.
The markets are now hoping for an improvement in manufacturing production going into spring based on the improvement in manufacturing confidence and orders. The ISM manufacturing index rose to a 9-month high of 51.8 in March before falling back to 50.8 in April. The ISM new orders sub-index was in decent shape at 58.3 in March and 55.8 in April, suggesting that manufacturing executives have seen an improvement in manufacturing order flow. Still, the U.S. manufacturing sector remains on shaky ground and any improvement in the sector is likely to be slow and grudging.
Crude oil inventories expected to fall in weekly EIA report — The market consensus for Wednesday’s weekly EIA report is for a -3.5 million bbl drop in U.S. crude oil inventories, a -550,000 bbl drop in Cushing crude oil inventories, a -1.25 million bbl drop in gasoline inventories, a -1.0 million drop in distillate inventories, and a +1.0 point rise in the U.S. refinery utilization rate. The API will release its weekly petroleum report today.